# pe-finance.wiki - full corpus

> A machine-readable reference for private equity fund economics: the GP and LP split computed tier by tier under both deal-by-deal and whole-fund waterfalls, the catch-up and clawback algebra, IRR against TVPI, DPI and MOIC, the subscription-line effect on reported IRR worked before and after, four public market equivalent methods on one index series, LPA mechanics, capital-call and pacing arithmetic, and ASC 820 fair value applied to a private position. One reference fund runs through every section so every figure reconciles.

Reviewed: 2026-08-27
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## Fund economics and the waterfall
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/economics/ (JSON: https://pe-finance.wiki/economics.json)

A private equity fund's economics reduce to three questions: what the fee is charged on, what share of profit the general partner takes, and when it takes it. The first two are quoted in every marketing document. The third is where deal-by-deal and whole-fund waterfalls diverge, and it is worth more than either of the other two. Every figure in this section is computed on the reference fund described on the index page, so the whole of it reconciles.

### Committed, contributed, invested and paid-in capital
Four different denominators that are routinely used interchangeably and are not the same number. Committed capital is what the LP has promised. Contributed or paid-in capital is what has actually been called and paid, including capital called to pay fees and expenses. Invested capital is the cost basis of the investments themselves. Net invested capital is invested capital less the cost basis of investments already realised.

Formula: PIC = I + F + X, where I is investment cost, F is management fees called and X is partnership expenses called. Every multiple must state which of C, PIC or I is its denominator

The gap between 2.2000x and 1.8700x is not fees on the way out; it is the fact that 75.0 of the 500.0 called never bought an asset. A gross MOIC quoted on invested capital is arithmetically insulated from the fee load by construction.,PIC can exceed committed capital where the LPA permits recycling, and can fall short of it where the fund never fully deploys. Neither case is unusual, so PIC/C is a real number to ask for rather than an assumed 1.00x.,The most common reporting error is a TVPI computed on invested capital and a DPI computed on paid-in in the same document. Check that DPI + RVPI equals TVPI before reading any of them.

### The management fee base during and after the investment period
During the investment period the fee is normally charged on committed capital, which pays the manager for readiness rather than for assets. After the investment period the base changes to something that shrinks as the fund harvests: invested capital, net invested capital, or net asset value. The base matters more than the rate.

Formula: Fee_t = rate_t * base_t. Total fee as a share of commitments = sum of Fee_t / C; as a share of capital actually deployed = sum of Fee_t / I

A NAV base is not a step-down. On the reference fund a 1.50 percent NAV fee costs 77.780 against 66.200 on unrealised cost, because the portfolio is marked above cost through the harvest years. A NAV base also pays the manager more when it marks its own book up, which is the reason LPs resist it.,The single most valuable disclosure here is the fee schedule in currency by year rather than as a rate. A rate hides the base; a schedule cannot.,Ask which day the base is struck on and whether it is averaged. A base measured at period end on a fund that realises in the final month of each period is materially cheaper than one averaged daily, on identical words.

### The step-down and what actually triggers it
The reduction in the management fee at the end of the commitment period. Three things can step: the rate, the base, or both. A step-down that changes only the rate while leaving the base on commitments is a much smaller concession than one that moves the base to invested capital.

Formula: Post-investment-period fee = rate_2 * base_2. Compare against rate_1 * C to size the concession

The trigger is usually the earlier of the end of the commitment period and the first closing of a successor fund. The second limb is the one that matters, because it stops an LP paying a full fee on a harvesting fund while paying a second full fee on the successor.,A step-down measured on invested capital keeps paying on a written-down asset unless the definition says net of write-downs. On the reference fund, investment B is worth 30.0 against a cost of 60.0 - a fee on cost charges for the full 60.0 until realisation.,The step-down is one of very few fee terms with no offsetting argument for the manager once the successor fund has closed, which makes the successor-fund trigger the easiest of the fee points to win.

### Fee offsets - transaction, monitoring and break-up fees
Fees the manager or its affiliates receive from portfolio companies or from failed transactions, credited against the management fee otherwise payable. The two variables are the offset percentage and the completeness of the definition of what counts.

Formula: Fee borne by LPs = gross management fee - s * O, where O is offsettable fee income and s the offset share. The GP retains (1 - s) * O

The percentage is negotiated and reported; the definition is not. What matters is whether the offset captures fees received by affiliates and operating-partner entities, whether it captures fees charged to a portfolio company for services rather than for the transaction, and whether unused offset credits carry forward when the fee in a period is already zero.,An offset credit that cannot be carried forward is worth nothing in a year when the management fee is small. On the reference fund the year-10 fee is 0.60, so an offset arising in year 10 is almost entirely wasted unless it carries back or forward.,Break-up fees are the cleanest case for a full offset, because the expenses of the failed deal were borne by the fund. Monitoring fees are the least clean, and an accelerated monitoring fee taken at exit is the item most worth reading in the fee-and-expense schedule.

### Carried interest
The GP's share of fund profit, expressed as a percentage of profit rather than as a fee on assets. Under a whole-fund waterfall that has cleared its catch-up, total carry is exactly the carry rate multiplied by total fund profit, and no term in the waterfall changes that total - only its timing.

Formula: Total carry under a whole-fund waterfall, once the catch-up has completed = k * (D_total - PIC). Total carry under a deal-by-deal waterfall = k * sum of positive per-investment profits

The identity is worth internalising: on a fund past its catch-up, arguing the hurdle down does not reduce total carry by a penny. The terms that change total carry are the waterfall type, the definition of profit, and whether losses net.,Carry is charged on profit over contributed capital, which includes the 75.0 of fees and expenses. That is favourable to the LP relative to a carry charged over invested capital only, and it is worth checking which the LPA says.,A carry rate above the market default is sometimes paired with a higher hurdle and presented as a trade. On a fund that clears its catch-up the rate is real and the hurdle is not, so the trade is not symmetric.

### Preferred return, and what it accrues on
A rate of return the LP must receive before the GP participates in profit. Three variables define it: the rate, the base it accrues on, and whether it compounds. The base is almost always contributed capital reduced as capital is returned, which makes the accrual path-dependent on the distribution schedule.

Formula: PA_t = PA_(t-1) + h * UC_(t-1), where UC is unreturned contributed capital. Distributions reduce UC first and then PA

Whether the pref accrues on all contributed capital or only on capital used to fund investments is a real distinction worth 75.0 of base on the reference fund. Accrual on all contributions is the LP-favourable formulation and the common one.,The order of tiers 1 and 2 is not universal. Paying the pref before returning capital produces the same totals in the end but a different interim path, and a materially different answer if the fund is terminated early.,A pref that compounds quarterly rather than annually at the same nominal rate is a higher pref. On the reference fund an 8.00 percent rate compounded quarterly is an effective 8.243 percent, which raises the accrual accordingly. Ask for the compounding convention, not just the rate.

### On a successful fund the hurdle is a timing term, not an economic one
With a full catch-up, once cumulative profit distributed exceeds the catch-up boundary, the LP has received exactly (1 - k) of profit and the GP exactly k, whatever the hurdle rate was. The hurdle changes total carry only if the fund never reaches that boundary.

Formula: The hurdle affects total carry only while cumulative profit P < Pref * c/(c - k). With c = 1 and k = 0.20 that boundary is 1.25 * Pref

This is the reason a GP concedes a higher hurdle readily and resists a lower catch-up share fiercely. The hurdle is a deferral in the outcomes the GP is underwriting to; the catch-up share is a permanent transfer in the outcomes it is not.,The result reverses for a mediocre fund. Between roughly 1.32x and 1.66x gross MOIC on the reference fund the hurdle is the single most valuable LP term in the waterfall, worth up to 30.9 of carry. An LP negotiating the hurdle is buying protection precisely in the outcome band where funds most often land.,The corollary for a hard hurdle - one with no catch-up, so the GP takes k only of profit above the pref - is that it does change the total. A hard 8.00 percent hurdle on the reference fund would give the GP 0.20 * (435.0 - 150.544) = 56.891 rather than 87.0000.

### Catch-up, and the algebra of its boundary
The tier that restores the GP to its target share of total profit after the preferred return has been paid to the LP. Inside the catch-up band the GP receives share c of each distribution until its cumulative receipts equal k of cumulative profit distributed. c is the negotiated term and it decides how fast, not how much.

Formula: G = k*Pref/(c - k). GP receives c*G = c*k*Pref/(c - k). Cumulative profit when the catch-up completes = Pref * c/(c - k). The catch-up never completes if c <= k

The catch-up share is where the argument about the hurdle is actually settled. A GP that concedes a higher hurdle and holds a 100 percent catch-up has conceded timing. A GP that concedes a 50/50 catch-up has conceded a slice of every outcome between the pref and 1.667 times the pref.,A catch-up share equal to or below the carry rate never completes, so the GP never reaches its target share. That is the mathematical description of a hard hurdle expressed in catch-up language, and it is why the two terms are alternatives rather than complements.,The catch-up band on the reference fund runs from 150.544 to 188.180 of cumulative profit against a total of 435.0. It looks small stated that way and it is the entire difference between the GP receiving 87.0 and receiving 56.9.

### Deal-by-deal against whole-fund on identical cash flows
The two waterfalls differ in what they net. A whole-fund waterfall returns all contributed capital and pays the preferred return on all of it before any carry. A deal-by-deal waterfall tests each realisation on its own, so carry is paid on winners before losers are known.

Formula: Whole-fund carry = k * (D_total - PIC). Deal-by-deal carry = k * sum of max(0, R_j - A_j) where A_j is attributable capital. The difference is k * sum of max(0, A_j - R_j), the losses that never net

The residual 39.8 basis points after a full clawback is the honest measure of what deal-by-deal costs an LP on a fund with one loss: it is the time value of carry paid early and returned late, and no clawback recovers it.,The gross-up convention is the whole argument in practice. An LPA that returns only the realised investment's own cost, with no allocation of fees and expenses, produces a materially lower hurdle per deal and therefore more carry sooner. Read the definition of the capital to be returned before modelling anything.,Deal-by-deal is far more valuable to a GP with dispersed outcomes than to one with uniform outcomes. If every investment returned exactly 2.2000x, the two waterfalls would produce the same total carry and differ only in timing. It is the loss on B that creates the 8.1176.

### GP clawback
An obligation on the GP to return carry it has already received where cumulative carry exceeds its entitlement measured across the whole fund at termination. It exists because a deal-by-deal waterfall pays carry on early winners before later losses are known.

Formula: Clawback = max(0, carry actually distributed - k * (D_total - PIC)). Usually capped at the carry received net of taxes paid on it

A clawback is only as good as the balance sheet behind it. The obligation usually sits with the carry vehicle and its individual members, several years after the individuals concerned have paid tax on the money and may have left the firm. Joint and several liability among the carry recipients is the term that converts a paper obligation into a collectible one.,An after-tax cap is standard and is also the single largest leak: it converts a full clawback into a partial one at exactly the rate of tax. An LP that accepts the cap should ask that the assumed rate be the highest marginal rate actually applicable rather than a blended one.,Interim clawback testing - a mandatory calculation at fixed dates during the fund's life rather than only at termination - is worth more than any drafting improvement to the obligation itself, because it catches the exposure while the carry vehicle still holds cash.

### Escrow securing the clawback
A portion of each carry distribution held back in an account rather than paid to the carry recipients, released only when a clawback test is satisfied. It converts an unsecured contractual obligation into cash on hand.

Formula: Escrow held = e * carry distributed. Uncovered exposure = max(0, clawback - escrow held)

The escrow percentage looks like the negotiation and the release condition is the negotiation. An escrow released annually on a rolling test is nearly worthless; one released only at termination or on a test that assumes remaining investments are written to a stated discount is the version that holds.,Sizing is not arbitrary. The maximum possible clawback is k multiplied by the largest plausible aggregate shortfall on the unrealised portfolio. On the reference fund at year 7 the unrealised cost basis is 220.0, so a total loss of it would create a clawback of up to 44.0 - which is what an escrow should be sized against, not against the realised exposure.,An escrow and a whole-fund waterfall are substitutes for the same risk. A GP offered the choice will normally prefer the escrow, which tells you which is cheaper for it.

### The GP commitment
Capital the GP and its principals commit to the fund alongside the LPs, normally free of management fee and carried interest. It is the alignment term most often quoted and least often sized against the carry it sits beside.

Formula: Alignment ratio = expected carry / GP commitment. A total loss of the GP commitment is offset by carry arising on gross profit of GP_commitment / k

The question that matters is not the percentage but whether it is cash from the individuals or funded out of fee income and waived management fee. A commitment funded by a fee waiver is not capital at risk in the sense the term implies; it is deferred compensation with a different tax profile.,Alignment scales with the ratio, not the percentage. A large fund with a 2.00 percent GP commitment has a much larger absolute commitment and exactly the same alignment ratio, because carry scales too.,The GP's capital being exempt from fee and carry is the reason a GP's own reported return on the fund is not comparable to any LP's. The two numbers differ by the entire fee and carry load - 0.5040x of multiple on the reference fund.

### Hard hurdle against soft hurdle
A soft hurdle, the standard formulation, gives the GP carry on all profit once the hurdle is cleared, using the catch-up to get there. A hard hurdle gives the GP carry only on profit above the hurdle amount, which is permanently excluded from the carry base.

Formula: Soft hurdle carry, past the catch-up = k * P. Hard hurdle carry = k * max(0, P - Pref)

A hard hurdle is the only version in which the hurdle rate itself changes total economics on a successful fund. That is why arguments about the rate and arguments about hardness are not the same argument, and the second one is worth far more.,Hard hurdles are common in credit and real assets and uncommon in buyout. The structural reason is that a hard hurdle on a strategy with a low expected multiple removes most of the carry, while on a high-multiple strategy it removes a smaller proportion - so the term migrates to where it costs the manager least.,A soft hurdle with a 100 percent catch-up and no hurdle at all are the same instrument above a gross MOIC of 1.6597x on the reference fund. If an LP wants the hurdle to mean something in good outcomes, hardness is the term to ask for, not the rate.

#### The reference fund - capital calls, distributions and net asset value
LP commitments 500.0. All calls and distributions occur at year end. Calls fund investments, management fees and partnership expenses. Total calls equal commitments exactly, so paid-in capital is 500.0 = 425.0 of investment cost + 66.2 of management fee + 8.8 of expenses. Gross realisation proceeds total 935.0, a gross MOIC of 2.2000x on invested capital. Net asset value is the fair value of unrealised investments at each year end. Figures are millions.

| Year | Investments at cost | Management fee | Expenses | Total call | Cumulative paid-in | Gross proceeds | NAV at year end |
|---|---|---|---|---|---|---|---|
| 1 | 105.0 | 10.00 | 4.30 | 119.30 | 119.30 | 0.0 | 105.0 |
| 2 | 100.0 | 10.00 | 0.50 | 110.50 | 229.80 | 0.0 | 215.0 |
| 3 | 100.0 | 10.00 | 0.50 | 110.50 | 340.30 | 0.0 | 355.0 |
| 4 | 80.0 | 10.00 | 0.50 | 90.50 | 430.80 | 0.0 | 515.0 |
| 5 | 40.0 | 10.00 | 0.50 | 50.50 | 481.30 | 110.0 | 545.0 |
| 6 | 0.0 | 5.70 | 0.50 | 6.20 | 487.50 | 30.0 | 615.0 |
| 7 | 0.0 | 4.80 | 0.50 | 5.30 | 492.80 | 310.0 | 395.0 |
| 8 | 0.0 | 3.30 | 0.50 | 3.80 | 496.60 | 225.0 | 225.0 |
| 9 | 0.0 | 1.80 | 0.50 | 2.30 | 498.90 | 180.0 | 72.0 |
| 10 | 0.0 | 0.60 | 0.50 | 1.10 | 500.00 | 80.0 | 0.0 |
| Total | 425.0 | 66.20 | 8.80 | 500.00 | 500.00 | 935.0 | - |

#### The six investments
The management fee after the investment period is 1.50 percent of the cost basis of investments still unrealised at the start of the year, which is why the deal schedule and the fee schedule are the same table read twice. Attributable capital grosses each investment's cost up by 500.0/425.0 = 1.1764706 so that fees and expenses are allocated across the six investments and the six attributable amounts sum to paid-in capital exactly.

| Investment | Cost | Acquired | Realised | Held, years | Proceeds | Gross MOIC | Attributable capital | Unrealised cost basis at start of the following year |
|---|---|---|---|---|---|---|---|---|
| A | 45.0 | Year 1 | Year 5 | 4 | 110.0 | 2.4444x | 52.9412 | 380.0 at start of year 6 |
| B | 60.0 | Year 1 | Year 6 | 5 | 30.0 | 0.5000x | 70.5882 | 320.0 at start of year 7 |
| C | 100.0 | Year 2 | Year 7 | 5 | 310.0 | 3.1000x | 117.6471 | 220.0 at start of year 8 |
| D | 100.0 | Year 3 | Year 8 | 5 | 225.0 | 2.2500x | 117.6471 | 120.0 at start of year 9 |
| E | 80.0 | Year 4 | Year 9 | 5 | 180.0 | 2.2500x | 94.1176 | 40.0 at start of year 10 |
| F | 40.0 | Year 5 | Year 10 | 5 | 80.0 | 2.0000x | 47.0588 | 0.0 |
| Total | 425.0 | - | - | - | 935.0 | 2.2000x | 500.0000 | - |

#### Whole-fund (European) waterfall, year by year
Preferred return accrues at 8.00 percent on the opening unreturned-capital balance and compounds annually. Calls land at year end, so a call begins accruing the following year. Distributions are applied in order: return of all contributed capital, then accrued unpaid preferred return, then a 100 percent GP catch-up until the GP holds 20 percent of cumulative profit distributed, then 80/20. Accrual and balance columns are stated after the year's accrual and before the year's distribution.

| Year | Pref accrued | Unreturned capital | Unpaid pref | Distribution | Tier 1 return of capital | Tier 2 pref to LP | Tier 3 catch-up to GP | Tier 4 to LP | Tier 4 to GP | LP total | GP carry |
|---|---|---|---|---|---|---|---|---|---|---|---|
| 1 | 0.000 | 119.300 | 0.000 | 0.0 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 |
| 2 | 9.544 | 229.800 | 9.544 | 0.0 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 |
| 3 | 18.384 | 340.300 | 27.928 | 0.0 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 |
| 4 | 27.224 | 430.800 | 55.152 | 0.0 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 | 0.000 |
| 5 | 34.464 | 371.300 | 89.616 | 110.0 | 110.000 | 0.000 | 0.000 | 0.000 | 0.000 | 110.000 | 0.000 |
| 6 | 29.704 | 347.500 | 119.320 | 30.0 | 30.000 | 0.000 | 0.000 | 0.000 | 0.000 | 30.000 | 0.000 |
| 7 | 27.800 | 42.800 | 147.120 | 310.0 | 310.000 | 0.000 | 0.000 | 0.000 | 0.000 | 310.000 | 0.000 |
| 8 | 3.424 | 0.000 | 0.000 | 225.0 | 46.600 | 150.544 | 27.856 | 0.000 | 0.000 | 197.144 | 27.856 |
| 9 | 0.000 | 0.000 | 0.000 | 180.0 | 2.300 | 0.000 | 9.780 | 134.336 | 33.584 | 136.636 | 43.364 |
| 10 | 0.000 | 0.000 | 0.000 | 80.0 | 1.100 | 0.000 | 0.000 | 63.120 | 15.780 | 64.220 | 15.780 |
| Total | - | - | - | 935.0 | 500.000 | 150.544 | 37.636 | 197.456 | 49.364 | 848.000 | 87.000 |

#### Deal-by-deal (American) waterfall, investment by investment
The same cash flows, with the waterfall applied to each investment on realisation. Each investment returns its attributable capital, then a preferred return accrued at 8.00 percent compounded from its acquisition year to its realisation year, then a 100 percent catch-up, then 80/20. Carry is paid at each realisation. The catch-up completes on every profitable investment here, so carry on each is exactly 20 percent of that investment's profit.

| Investment | Attributable capital | Pref accrued | Proceeds | Profit over attributable capital | Profit needed to complete the catch-up | GP carry | LP distribution | Year paid |
|---|---|---|---|---|---|---|---|---|
| A | 52.9412 | 19.0847 | 110.0 | 57.0588 | 23.8559 | 11.4118 | 98.5882 | 5 |
| B | 70.5882 | 33.1290 | 30.0 | -40.5882 | 41.4113 | 0.0000 | 30.0000 | 6 |
| C | 117.6471 | 55.2151 | 310.0 | 192.3529 | 69.0188 | 38.4706 | 271.5294 | 7 |
| D | 117.6471 | 55.2151 | 225.0 | 107.3529 | 69.0188 | 21.4706 | 203.5294 | 8 |
| E | 94.1176 | 44.1721 | 180.0 | 85.8824 | 55.2151 | 17.1765 | 162.8235 | 9 |
| F | 47.0588 | 22.0860 | 80.0 | 32.9412 | 27.6075 | 6.5882 | 73.4118 | 10 |
| Total | 500.0000 | 228.9020 | 935.0 | 435.0000 | - | 95.1176 | 839.8824 | - |

#### The two waterfalls side by side
One fund, one set of cash flows, two waterfall definitions. Carry timing is the only structural difference and it is worth 8.1176 of carry and 56.8 basis points of LP net IRR before any clawback is enforced. IRRs are internal rates of return on LP cash flows solved by bisection on annual periods.

| Measure | Whole-fund (European) | Deal-by-deal (American) | Deal-by-deal after a full clawback paid in year 10 |
|---|---|---|---|
| First carry payment | Year 8 | Year 5 | Year 5 |
| Carry paid by end of year 5 | 0.0000 | 11.4118 | 11.4118 |
| Carry paid by end of year 7 | 0.0000 | 49.8824 | 49.8824 |
| Total GP carry | 87.0000 | 95.1176 | 87.0000 |
| Total LP distributions | 848.0000 | 839.8824 | 848.0000 |
| LP DPI and TVPI on 500.0 paid-in | 1.6960x | 1.6798x | 1.6960x |
| LP net IRR | 11.9825% | 11.4142% | 11.5841% |
| Carry as a share of the 435.0 of fund profit | 20.0000% | 21.8661% | 20.0000% |
| Clawback owed at termination | 0.0000 | 8.1176 | 0.0000 (paid) |

#### Management fee: five bases on the same fund
Every variant charges 2.00 percent of the 500.0 of commitments through the five-year investment period and differs only in what happens afterwards. Variant C is the reference fund. The headline rate is identical in all five; the total paid ranges from 66.20 to 100.00.

| Variant | Years 6 to 10, per year | Total fee | As a percent of commitments | As a percent of the 425.0 invested |
|---|---|---|---|---|
| A. 2.00 percent of commitments, no step-down | 10.00, 10.00, 10.00, 10.00, 10.00 | 100.000 | 20.000 | 23.529 |
| B. 2.00 percent of unrealised cost basis | 7.60, 6.40, 4.40, 2.40, 0.80 | 71.600 | 14.320 | 16.847 |
| C. 1.50 percent of unrealised cost basis (reference fund) | 5.70, 4.80, 3.30, 1.80, 0.60 | 66.200 | 13.240 | 15.576 |
| D. 1.50 percent of opening net asset value | 8.175, 9.225, 5.925, 3.375, 1.080 | 77.780 | 15.556 | 18.301 |
| E. Rate declining 10 percent of itself each year, still on commitments | 9.000, 8.100, 7.290, 6.561, 5.905 | 86.856 | 17.371 | 20.437 |
| Spread, widest to narrowest | - | 33.800 | 6.760 | 7.953 |

#### Catch-up boundary by catch-up share
The preferred return actually paid on the reference fund is 150.544. k is the carried interest rate, 20 percent. c is the GP's share of distributions inside the catch-up band. G is the total distributed in the catch-up tier. G = k*Pref/(c - k), and cumulative profit at the moment the catch-up completes is Pref*c/(c - k).

| Catch-up share c | Tier-3 distribution G | of which to the GP | of which to the LP | Cumulative profit when the catch-up completes | As a multiple of the pref |
|---|---|---|---|---|---|
| 100 percent | 37.6360 | 37.6360 | 0.0000 | 188.1800 | 1.250000x |
| 80 percent | 50.1813 | 40.1451 | 10.0363 | 200.7253 | 1.333333x |
| 60 percent | 75.2720 | 45.1632 | 30.1088 | 225.8160 | 1.500000x |
| 50 percent | 100.3627 | 50.1813 | 50.1813 | 250.9067 | 1.666667x |
| 30 percent | 301.0880 | 90.3264 | 210.7616 | 451.6320 | 3.000000x |
| 25 percent | 602.1760 | 150.5440 | 451.6320 | 752.7200 | 5.000000x |
| 20 percent | never completes | - | - | unbounded | - |

#### Hurdle sensitivity on the reference fund
The same cash flows run through the whole-fund waterfall at seven hurdle rates. Total GP carry is 87.0000 in every row, because the fund's 435.0 of profit is well past the catch-up boundary at every rate tested. The hurdle moves only the timing, and the timing is worth about 10 basis points of LP net IRR across the whole range. Two things in this table look like transcription errors and are not. Total GP carry, LP distributions and LP DPI are identical in every row because the hurdle is a priority rule, not a fee: it changes the order in which a fixed pot is paid out, never its size. And LP net IRR moves in steps rather than continuously - 0, 6 and 7 percent all return 11.9605 percent, and 10 and 12 percent both return 12.0611 percent - because carry is taken at discrete distribution dates. Raising the hurdle only changes the IRR when it pushes the catch-up across a date boundary into a later distribution; within a band it lands in the same period and the dated cash flows are unchanged.

| Hurdle | Preferred return paid | Catch-up to the GP | Total GP carry | LP distributions | LP DPI | LP net IRR |
|---|---|---|---|---|---|---|
| 0.00 percent | 0.000 | 0.000 | 87.000 | 848.000 | 1.6960x | 11.9605% |
| 6.00 percent | 112.908 | 28.227 | 87.000 | 848.000 | 1.6960x | 11.9605% |
| 7.00 percent | 131.726 | 32.932 | 87.000 | 848.000 | 1.6960x | 11.9605% |
| 8.00 percent (reference fund) | 150.544 | 37.636 | 87.000 | 848.000 | 1.6960x | 11.9825% |
| 9.00 percent | 169.362 | 42.341 | 87.000 | 848.000 | 1.6960x | 12.0355% |
| 10.00 percent | 188.180 | 47.045 | 87.000 | 848.000 | 1.6960x | 12.0611% |
| 12.00 percent | 225.816 | 56.454 | 87.000 | 848.000 | 1.6960x | 12.0611% |

#### Where the hurdle stops being a timing term
Proceeds from all six investments are scaled by a common factor and the whole-fund waterfall re-run at an 8.00 percent hurdle and at no hurdle. The two answers separate only below a gross MOIC of 1.6597x, which is the point at which cumulative profit falls short of 1.25 times the preferred return paid. Gross proceeds are shown to four decimals so the carry columns can be derived by recomputing from the figure printed here; two decimals rounded away enough to make the reconciliation fail by a few ten-thousandths.

| Gross MOIC | Gross proceeds | GP carry at an 8.00 percent hurdle | GP carry with no hurdle | Cost of the hurdle to the GP |
|---|---|---|---|---|
| 1.1000x | 467.50 | 0.0000 | 0.0000 | 0.0000 |
| 1.3200x | 561.00 | 0.0000 | 12.2000 | 12.2000 |
| 1.4300x | 607.75 | 0.0000 | 21.5500 | 21.5500 |
| 1.5400x | 654.50 | 0.0000 | 30.9000 | 30.9000 |
| 1.6425x | 698.0625 | 33.3366 | 39.6142 | 6.2776 |
| 1.6597x (boundary) | 705.3725 | 41.0743 | 41.0743 | 0.0000 |
| 1.7600x | 748.00 | 49.6000 | 49.6000 | 0.0000 |
| 2.2000x (reference fund) | 935.00 | 87.0000 | 87.0000 | 0.0000 |

## Performance measurement, and how it is gamed
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/performance/ (JSON: https://pe-finance.wiki/performance.json)

Every private equity performance number is either a rate or a ratio, and the two answer different questions. A rate is sensitive to when cash moved and says nothing about how much was made. A ratio is sensitive to how much was made and says nothing about when. Almost every reporting controversy in the asset class is a case of one being quoted where the other applies, and the most consequential of them - the subscription credit facility - raises the rate while lowering the ratio. Everything here is computed on the reference fund, so the numbers reconcile to the waterfall on the economics page.

### The subscription line effect on net IRR
A capital call facility secured by uncalled LP commitments lets a fund fund an investment before calling capital from its LPs. The investment's own cash flows do not change. The LP's cash flows move later, and because IRR is a function of timing and multiples are not, net IRR rises while DPI and TVPI fall by the cost of the borrowing.

Formula: Facility interest is added to the deferred call: call_t becomes call_t * (1 + c)^d at time t + d. IRR rises because d shortens the LP's exposure period; TVPI falls because PIC rises by the interest and distributions do not

This is the clearest case in the asset class where a headline metric and the underlying economics move in opposite directions. Nothing about it is improper - the facility genuinely shortens the period LP capital is at risk - but a net IRR comparison between a fund that uses a line and one that does not is not a comparison of anything.,The GP gives something up too, and it is worth knowing what: on the reference fund the facility raises contributed capital, which raises the return-of-capital hurdle, so GP carry falls from 87.0000 to 81.9000. The GP trades 5.1000 of carry for 154 basis points of track record. That trade is only rational if the track record is worth more than the carry, which tells you what the facility is for.,The right questions are numerical and short. Ask for net IRR computed as though every call had been made on the investment date; ask for the average number of days between investment and capital call; ask for total facility interest as a line in the expense schedule. The second number predicts the size of the first adjustment before anyone computes it.,A facility long enough to span most of the investment period changes the character of the fund's reported return entirely. At 24 months the reference fund reports a 15.9796 percent net IRR on a portfolio that delivered 1.5538x to its LPs, against 11.9825 percent on 1.6960x with no facility. The better multiple is the worse-looking fund.

### Why IRR and the multiple disagree, and when the identity holds
IRR is a rate; TVPI and MOIC are ratios. They are connected by a closed form only in the single-draw, single-return case. For any real call and distribution schedule there is no closed form, and the same multiple maps to a wide range of IRRs depending entirely on when cash moved.

Formula: Single draw and single return: IRR = MOIC^(1/n) - 1, equivalently MOIC = (1 + IRR)^n. For a stream, IRR solves 0 = sum of CF_t/(1 + IRR)^t and has no closed form

The gross-to-net gap is best read as two separate leaks. The multiple falls from 2.2000x to 1.6960x, of which 0.3300x is capital called that never bought an asset and 0.1740x is carry. The rate falls by 530.9 basis points, which mixes both leaks with the timing of the calls.,IRR cannot be averaged across funds or added across periods. Pooling the cash flows and re-solving is the only correct aggregation, and it produces a different answer from an average of the individual IRRs in every case except a trivial one.,Because IRR assumes interim distributions earn the IRR itself, a fund with an early realisation and a long tail reports a rate its LPs could not have earned on the cash they received. The reference fund distributes 110.0 in year 5 and is still calling capital in year 10; the 11.9825 percent rate assumes that 110.0 compounded at 11.9825 percent, which nobody guaranteed.

### The gross-to-net bridge
Gross figures are computed on cash flows between the fund and its investments. Net figures are computed on cash flows between the fund and its LPs. The bridge between them is the management fee, partnership expenses, carried interest, and the timing of capital calls.

Formula: Net multiple = (gross proceeds - carry) / (I + F + X). Each of the three deductions can be sized separately

Stating the load as a share of gross profit is the framing that survives comparison across strategies. A 162.0 deduction from 510.0 of gross profit is 31.765 percent whatever the multiple was; a 0.5040x deduction from a multiple means nothing without knowing the multiple.,Fees cost more than carry on this fund, and that is the usual case at ordinary outcomes rather than the exception. Carry scales with success and fees do not, so the fee load dominates in exactly the outcomes that are most common.,A gross IRR quoted without the corresponding gross MOIC is unreadable, because gross IRR on deal-level flows is silent about how long the fund took to deploy. On the reference fund the gross IRR of 17.2915 percent is essentially the five-year hold on a 2.2000x, which the multiple and the holding period would have told you directly.

### TVPI, DPI and RVPI - read the split, not the sum
DPI is cash returned per unit of paid-in capital and is the only one of the three that cannot be asserted. RVPI is the manager's own mark per unit of paid-in. TVPI is their sum, which means two funds with identical TVPI can be in completely different positions.

Formula: TVPI = DPI + RVPI. Realisation share = DPI/TVPI

The reference fund's TVPI peaks at 1.7562x in year 8 and falls to 1.6960x at termination. TVPI is not monotonic and a decline in it is not necessarily bad news - it can simply be marks converging to realisations, which is what happened here.,DPI can be raised without a realisation by borrowing at the fund level against NAV and distributing the proceeds. The LP's DPI rises, its RVPI falls by less than the distribution, and it now sits behind a secured lender. Reconciling every distribution to a named realisation is the only check.,RVPI should decline on a schedule set by the expected hold period. RVPI that persists well past the fund's stated term is a portfolio of assets that could not be sold at the marked price, whatever the mark says.

### The J-curve
The characteristic path of a closed-end fund's reported return: negative early, because fees and expenses are charged against a portfolio still held at or near cost, then rising as marks and realisations arrive. The depth of the curve is set by the fee load and the speed of any early write-down; its length is set by deployment pace.

Formula: TVPI at year t = (cumulative distributions + NAV_t) / cumulative paid-in. The trough occurs where the marginal fee call exceeds the marginal increase in value

The since-inception IRR peaks in year 6 and then falls for four straight years while the fund distributes 708.0 of cash. That is not deterioration; it is the arithmetic of a rate declining as the same profit is spread over a longer period. Reading a falling IRR in a harvesting fund as bad news is a common and expensive error.,A fund that reports no J-curve is worth a question. The two usual explanations are a subscription facility deferring the calls that would have created it, or early marks written up above cost, and the two have very different implications.,The trough depth is roughly the year-one fee and expense call divided by commitments called - 14.30 on 119.30 here, or 11.99 percent. A fund that calls fees on committed capital while deploying slowly has a deeper and longer trough for reasons entirely unrelated to its investments.

### Unrealised marks and the reported multiple
Until a fund is fully realised, part of every reported multiple is an estimate produced by the party being measured. The share that is an estimate is exactly RVPI/TVPI, and it is computable from the report itself.

Formula: Share of TVPI that is unrealised = RVPI/TVPI. Sensitivity of TVPI to a uniform mark error of e = e * RVPI

The most useful single statistic a manager can publish is the historical ratio of realisation proceeds to the last mark before exit, by investment. It converts the credibility of the marks from a matter of opinion into a distribution.,Mark error is not symmetric in its consequences. An overstated mark inflates a fee charged on NAV, inflates an accrued carry that has not been earned, and supports a fundraise; an understated one does none of those things. Ask which direction the incentive points before assuming the errors cancel.,A mark held flat at cost for several years is a decision, not an absence of one. Investment B sat at 60.0 for two years before being written down, and the write-down when it came was 50 percent of cost.

### Kaplan-Schoar PME
A wealth ratio rather than a rate. Every fund cash flow is restated into a common date using the index, and the ratio of restated inflows plus terminal NAV to restated outflows is taken. Above 1.00 the fund produced more terminal wealth than the same cash invested in the index on the same dates.

Formula: KS-PME = (sum of D_t * I_T/I_t + NAV_T) / (sum of C_t * I_T/I_t)

KS-PME is the most robust of the four methods because it is a ratio and therefore always defined. It cannot produce the negative intermediate value that breaks Long-Nickels, and it does not depend on solving for a rate.,Its weakness is the same as TVPI's: it says nothing about time. A KS-PME of 1.2041 over ten years and over four years are very different results reported identically, which is why it is normally read alongside Direct Alpha.,The choice of index dominates the answer and is not a technical detail. A PME against a broad equity index and a PME against a levered small-cap index on the same fund can land on opposite sides of 1.00, and neither is wrong - they answer different questions about the LP's alternative.

### Long-Nickels PME
Constructs a hypothetical index portfolio into which the fund's contributions are invested and out of which its distributions are withdrawn, then reports the IRR of the fund's own cash flows using the index portfolio's terminal value in place of the fund's NAV. The result is the rate the index would have delivered on this cash flow schedule.

Formula: PME NAV_T = sum of C_t * I_T/I_t - sum of D_t * I_T/I_t. LN-PME IRR solves 0 = sum of (-C_t + D_t)/(1 + r)^t + PME NAV_T/(1 + r)^T

The negative PME NAV is the standard criticism of the method and it is not hypothetical - it happens whenever a fund distributes more, earlier, than the index would have supported, which is to say whenever the fund substantially outperforms. The method degrades exactly where the answer is most interesting.,There is a special case worth knowing: if the index return is constant, LN-PME IRR equals that constant exactly. Against a flat 7.00 percent index the reference fund's LN-PME is 7.0000 percent to four decimal places. Any variation in the reported LN-PME comes entirely from the interaction between the index's path and the fund's cash flow timing.,The 112 basis point gap between the index's 8.3504 percent CAGR and the 7.2267 percent LN-PME is real information: the fund called capital heavily in years 1 to 5, which included the index's -8.00 percent year, and this schedule earned less from the index than a lump sum would have.

### PME+
A modification of Long-Nickels that scales all distributions by a single factor chosen so the hypothetical index portfolio ends with exactly the fund's own terminal NAV. This removes the possibility of a negative index position at the cost of misstating the individual distributions.

Formula: lambda = (sum of C_t * I_T/I_t - NAV_T) / (sum of D_t * I_T/I_t). PME+ IRR solves 0 = sum of (-C_t + lambda*D_t)/(1 + r)^t + NAV_T/(1 + r)^T

The 40 basis point gap between LN-PME and PME+ on identical inputs is the reason a PME figure without its method named is not a number. Two managers using different PME conventions on the same fund and the same index will report different outperformance.,PME+ scales every distribution by the same factor, which is defensible as a construct and false as a description: it says the fund distributed 83.05 percent of what it actually distributed. The scaling is a device to force the terminal condition, not a claim about the cash flows.,PME+ is at its most useful for a fund with substantial remaining NAV, which is exactly the case where the LN construct is most likely to go short. On a fully realised fund the two methods converge in purpose and PME+ retains only its terminal-condition advantage.

### Direct Alpha
Restates every fund cash flow into terminal-date money using the index, then solves for the IRR of the restated series. Because the index return has been stripped out of every flow, the resulting rate is the annualised excess return directly, not a spread between two separately computed rates.

Formula: Direct Alpha = IRR of the series {-C_t * I_T/I_t, +D_t * I_T/I_t, +NAV_T}

Direct Alpha is the only one of the four that produces an excess return without subtracting one IRR from another, which matters because IRRs are not additive. A spread between two IRRs is not a rate of anything; Direct Alpha is.,The exact multiplicative decomposition holds only when the index return is constant. Against a real index series it is an approximation, and on the reference fund it is 39.8 basis points off. Anyone presenting Direct Alpha as an exact attribution should be asked which index path makes that true.,Direct Alpha and KS-PME are complements, not alternatives: KS-PME gives the size of the outperformance as a wealth ratio and Direct Alpha gives its rate. Reported together they are enough. Reported alone, either can be made to look better by choosing the other's blind spot.

### Horizon IRR against since-inception IRR
A since-inception IRR uses every cash flow from the fund's first call. A horizon IRR uses only a recent window, treating the NAV at the start of the window as a purchase and the NAV at the end as a sale. They answer different questions and can differ by more than the entire return.

Formula: Horizon IRR over the window (T-n, T] solves 0 = -NAV_(T-n) + sum over t in the window of (-C_t + D_t)/(1 + r)^(t-(T-n)) + NAV_T/(1 + r)^n

A horizon IRR on a fund in wind-down is close to meaningless, because the opening NAV dominates the window and the return consists of that NAV being paid out. The reference fund's -12.3333 percent one-year horizon IRR describes an entirely successful final year in which 80.0 was distributed against a 72.0 opening mark.,The seven-year horizon IRR exceeds the since-inception figure because it excludes the J-curve. That is not a distortion; it is the definition of the window. It does mean that a manager choosing a horizon is choosing an answer.,Horizon IRRs are the standard basis for benchmark comparisons across managers, and they are the metric most sensitive to the vintage mix of the portfolio being compared. A programme dominated by young funds and one dominated by old funds cannot be compared on a three-year horizon IRR at all.

### IRR cannot be averaged, added, or carried across periods
IRR is the root of a polynomial in the cash flows. Roots do not add. An average of two funds' IRRs is not the IRR of the two funds together, and a return computed over two consecutive windows cannot be chained to give the return over the combined window.

Formula: The only correct aggregation is to pool the cash flows and re-solve: IRR_pooled solves 0 = sum over all funds and all t of CF_(j,t)/(1 + r)^t

This is the practical reason a fund-of-funds or an LP programme reports pooled cash flow IRRs rather than average fund IRRs, and why the two figures for the same portfolio can differ by hundreds of basis points.,The same non-additivity is why a since-inception IRR is not recoverable from a series of published annual returns, and why an LP that only receives horizon IRRs cannot reconstruct its own experience without the underlying cash flows.,The workaround, where cash flows are unavailable, is to switch metric rather than to fix the arithmetic. Pooled TVPI and pooled DPI aggregate correctly and require only the totals.

#### Metric definitions and what each one is blind to
PIC is paid-in capital, D cumulative distributions to LPs, NAV residual fair value, I invested capital at cost, and n the holding period in years. Gross measures are computed on cash flows between the fund and its investments; net measures on cash flows between the fund and its LPs.

| Metric | Formula | Reference fund | Blind to |
|---|---|---|---|
| Gross MOIC | (realised proceeds + residual value) / I | 935.0/425.0 = 2.2000x | Time, fees, carry, and the capital called that never bought an asset |
| Multiple on paid-in, gross | gross proceeds / PIC | 935.0/500.0 = 1.8700x | Time and carry |
| DPI | D / PIC | 848.0/500.0 = 1.6960x | Unrealised value, and whether the cash came from a realisation or from borrowing |
| RVPI | NAV / PIC | 0.0/500.0 = 0.0000x at termination; peaks at 1.2615x in year 6 | Liquidity. It is a mark, and for a buyout fund a Level 3 mark |
| TVPI | (D + NAV) / PIC | 1.6960x | Time, and the split between cash received and value asserted |
| Net MOIC | (D + NAV) / PIC | identical to TVPI | Nothing that TVPI is not also blind to; the two terms are used interchangeably |
| Gross IRR | rate solving 0 = sum of deal-level cash flows discounted | 17.2915% | Fees, expenses, carry, and the timing of LP capital calls |
| Net IRR | rate solving 0 = sum of LP cash flows discounted | 11.9825% | Nothing about the LP's actual experience, but it is fully controllable through call timing |

#### The identities that must hold
If a report fails any of these, the denominators are inconsistent and none of the numbers can be read.

| Identity | Reference fund check |
|---|---|
| TVPI = DPI + RVPI | 1.6960 = 1.6960 + 0.0000 at termination; 1.5487 = 0.2872 + 1.2615 at year 6 |
| Gross proceeds = LP distributions + GP carry | 935.0 = 848.0 + 87.0 |
| Fund profit = gross proceeds - paid-in capital | 435.0 = 935.0 - 500.0 |
| Carry = k * profit, past the catch-up | 87.0 = 0.20 * 435.0 |
| Single-draw case only: IRR = MOIC^(1/n) - 1 | 1.6960^(1/10) - 1 = 5.4248%, which is not the 11.9825% net IRR - the identity fails for a real call schedule |
| PME+ terminal value = fund terminal NAV | 914.3383 - 0.830490 * 1100.9628 = 0.0000 |

#### The J-curve - interim metrics year by year
Whole-fund waterfall, so no carry is paid before year 8. Since-inception IRR is solved on cumulative LP cash flows plus the year-end NAV as a terminal inflow. At year 1 the only flows are a 119.30 call and a 105.0 NAV struck on the same date, which has no internal rate of return.

| Year | Cumulative paid-in | Cumulative LP distributions | NAV | DPI | RVPI | TVPI | Since-inception net IRR |
|---|---|---|---|---|---|---|---|
| 1 | 119.30 | 0.000 | 105.0 | 0.0000x | 0.8801x | 0.8801x | not defined |
| 2 | 229.80 | 0.000 | 215.0 | 0.0000x | 0.9356x | 0.9356x | -12.4057% |
| 3 | 340.30 | 0.000 | 355.0 | 0.0000x | 1.0432x | 1.0432x | 4.1519% |
| 4 | 430.80 | 0.000 | 515.0 | 0.0000x | 1.1955x | 1.1955x | 11.3181% |
| 5 | 481.30 | 110.000 | 545.0 | 0.2285x | 1.1323x | 1.3609x | 13.4923% |
| 6 | 487.50 | 140.000 | 615.0 | 0.2872x | 1.2615x | 1.5487x | 14.3984% |
| 7 | 492.80 | 450.000 | 395.0 | 0.9131x | 0.8015x | 1.7147x | 14.2780% |
| 8 | 496.60 | 647.144 | 225.0 | 1.3031x | 0.4531x | 1.7562x | 13.4436% |
| 9 | 498.90 | 783.780 | 72.0 | 1.5710x | 0.1443x | 1.7153x | 12.3492% |
| 10 | 500.00 | 848.000 | 0.0 | 1.6960x | 0.0000x | 1.6960x | 11.9825% |

#### Subscription credit facility - the same fund, three facility lengths
The facility funds each investment drawdown and is repaid by an LP capital call the stated number of months later, with facility interest at an assumed 6.00 percent added to the call. Management fee and expense calls are made when due. The six investments, their acquisition dates, their exit dates and their proceeds are identical in every row, so the underlying gross MOIC is 2.2000x throughout. The whole-fund waterfall is re-run in each case, so the higher contributed capital correctly raises the return-of-capital hurdle.

| Facility length | Paid-in capital | Facility interest borne by LPs | LP distributions | GP carry | DPI and TVPI | Net IRR | Change in net IRR |
|---|---|---|---|---|---|---|---|
| None | 500.0000 | 0.0000 | 848.0000 | 87.0000 | 1.6960x | 11.9825% | - |
| 12 months | 525.5000 | 25.5000 | 853.1000 | 81.9000 | 1.6234x | 13.5240% | +154.2 bps |
| 24 months | 552.5300 | 52.5300 | 858.5060 | 76.4940 | 1.5538x | 15.9796% | +399.7 bps |

#### Subscription facility - the calls it moves
Investment drawdowns of 105.0, 100.0, 100.0, 80.0 and 40.0 in years 1 to 5 are pushed out by the facility length and grossed up by 1.06 per year of deferral. Fee and expense calls stay where they were.

| Year | No facility | 12-month facility | 24-month facility |
|---|---|---|---|
| 1 | 119.30 | 14.30 | 14.30 |
| 2 | 110.50 | 121.80 | 10.50 |
| 3 | 110.50 | 116.50 | 128.478 |
| 4 | 90.50 | 116.50 | 122.860 |
| 5 | 50.50 | 95.30 | 122.860 |
| 6 | 6.20 | 48.60 | 96.088 |
| 7 | 5.30 | 5.30 | 50.244 |
| 8 | 3.80 | 3.80 | 3.80 |
| 9 | 2.30 | 2.30 | 2.30 |
| 10 | 1.10 | 1.10 | 1.10 |
| Total | 500.00 | 525.50 | 552.530 |

#### Horizon IRR against since-inception IRR
A horizon IRR treats the NAV at the start of the window as an opening outflow and the NAV at the end as a closing inflow. On the reference fund the closing NAV is zero, so short horizons ending at termination consist almost entirely of the opening NAV being paid out and look poor regardless of how the fund performed.

| Window ending in year 10 | Opening NAV treated as an outflow | Horizon IRR |
|---|---|---|
| 1 year | 72.0 at end of year 9 | -12.3333% |
| 2 years | 225.0 at end of year 8 | -9.3487% |
| 3 years | 395.0 at end of year 7 | -0.6386% |
| 5 years | 545.0 at end of year 5 | 10.3387% |
| 7 years | 355.0 at end of year 3 | 13.6730% |
| 10 years (since inception) | none | 11.9825% |

#### The assumed index series used for every PME below
An illustrative public index total-return series chosen for legibility. It is not a measured index and no claim is made about any real benchmark. Level 100.00 at time zero. Growth factors are the compounding from each year end to year 10, which is the multiplier used to restate a cash flow into year-10 money.

| Year | Annual total return | Index level | Growth factor to year 10 |
|---|---|---|---|
| 0 | - | 100.0000 | 2.229998 |
| 1 | +12.00% | 112.0000 | 1.991070 |
| 2 | -8.00% | 103.0400 | 2.164206 |
| 3 | +22.00% | 125.7088 | 1.773939 |
| 4 | +14.00% | 143.3080 | 1.556087 |
| 5 | +2.00% | 146.1742 | 1.525576 |
| 6 | +18.00% | 172.4855 | 1.292861 |
| 7 | -12.00% | 151.7873 | 1.469160 |
| 8 | +26.00% | 191.2520 | 1.166000 |
| 9 | +10.00% | 210.3772 | 1.060000 |
| 10 | +6.00% | 222.9998 | 1.000000 |
| 10-year compound annual growth | 8.3504% | - | - |

#### Four PME methods on the reference fund
Contributions are the LP capital calls of the reference fund; distributions are the 848.0 of LP distributions under the whole-fund waterfall; terminal NAV is zero. The future value at year 10 of the contributions invested in the index is 914.3383 and of the distributions is 1100.9628.

| Method | What it answers | Formula | Result | Read as |
|---|---|---|---|---|
| Kaplan-Schoar (KS-PME) | How much more value per unit of index-equivalent capital | (FV of distributions + NAV_T) / FV of contributions | (1100.9628 + 0.0)/914.3383 = 1.2041 | 1.2041 means 20.41 percent more terminal wealth than the index on the same cash flow timing. Above 1.00 is outperformance |
| Long-Nickels (LN-PME) | What rate the index would have returned on this cash flow schedule | IRR of the fund's contributions and distributions with a terminal value of FV(contributions) - FV(distributions) | PME NAV = 914.3383 - 1100.9628 = -186.6246; IRR = 7.2267% | Compare to the fund's 11.9825 percent net IRR: a spread of +475.6 bps. The negative PME NAV is the method's known weakness |
| PME+ | The same, with distributions scaled so the index portfolio ends at the fund's own NAV | lambda = (FV contributions - NAV_T)/FV distributions, then IRR of contributions and lambda-scaled distributions plus NAV_T | lambda = 0.830490; IRR = 7.6266% | Spread of +435.6 bps. PME+ never produces a negative index NAV, which is why it exists |
| Direct Alpha | The annualised excess return itself, not a spread between two rates | IRR of every fund cash flow after restating it into terminal-date money at the index | 4.0641% | The fund beat the index by 4.0641 percent per annum, compounded, on its own cash flow timing |

#### TVPI sensitivity to marks at peak unrealised value
At the end of year 6 the reference fund reports a TVPI of 1.5487x, of which 81.46 percent is unrealised. The table shifts the 615.0 of NAV by a uniform percentage and leaves the 140.0 of realised distributions and the 487.5 of paid-in unchanged.

| Marks off by | NAV | RVPI | DPI | Reported TVPI |
|---|---|---|---|---|
| -30% | 430.5 | 0.8831x | 0.2872x | 1.1703x |
| -20% | 492.0 | 1.0092x | 0.2872x | 1.2964x |
| -10% | 553.5 | 1.1354x | 0.2872x | 1.4226x |
| 0% | 615.0 | 1.2615x | 0.2872x | 1.5487x |
| +10% | 676.5 | 1.3877x | 0.2872x | 1.6749x |
| +20% | 738.0 | 1.5138x | 0.2872x | 1.8010x |

## Fund structure and terms
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/structure/ (JSON: https://pe-finance.wiki/structure.json)

Almost every term in a limited partnership agreement is a return term in disguise. The commitment period decides how long the fee runs on commitments. Recycling decides how much capital the fund can put to work. Removal rights decide whether the fee and the carry survive a change of personnel. This section maps the terms to the numbers they move, using the reference fund throughout. Nothing here describes market practice as measured; each term is described structurally, with the arithmetic where arithmetic exists.

### Commitment period
The window during which the GP may call capital for new investments. It sets the fee base, the recycling window, and the point at which the step-down bites. It normally ends early on a key-person event or on the first closing of a successor fund.

Formula: Fee during the commitment period = rate * C per year. Cost of one extra year = rate * C - rate_2 * base_2

The gap between the fee on commitments and the fee on capital at work is at its widest in year 1 and closes as the fund deploys. That is the defensible case for the commitments base: the manager is paid for readiness. It stops being defensible when deployment is slow for reasons inside the manager's control.,An early end to the commitment period is worth more than a reduction in the rate, because it moves the base rather than the rate. Any LP negotiating fees should price the successor-fund trigger first.,Capital may usually still be called after the commitment period for follow-on investments, fees, expenses and to satisfy indemnity obligations. The reference fund calls 18.70 after year 5 for exactly those reasons - a small number that surprises LPs who believed the calls had stopped.

### Term and extensions
The fund's stated life, after which it must wind down, together with the GP's right to extend. The two questions are how many extensions are available on whose consent, and what fee is charged during them.

Formula: Cost of an extension = fee during the extension + the option value the GP retains on the unsold assets, against the discount a forced sale would have suffered

An extension is an option and the LP is writing it. The right price is a fee holiday during the extension, which aligns the GP's incentive with actually selling rather than with continuing to be paid for holding.,Extensions in the LPA and continuation vehicles are competing answers to the same problem, and the second is far more expensive to the LP. A fund with generous extension rights has less need to run a GP-led secondary, which is an argument for granting them.,Ask what happens on the day after the final extension expires. An LPA whose only remedy is a mandatory liquidation gives the GP a strong hand in negotiating a further extension, because the alternative is a fire sale that the LPs also do not want.

### Recycling and reinvestment provisions
The right to reinvest capital returned from realisations, or to call again capital previously distributed, so that total deployment exceeds total capital called. It is a return term expressed in legal language and located in the legal section of the document.

Formula: Total deployment = I + recycled amount, capped at a stated percentage of commitments or at a stated period. TVPI rises on an unchanged paid-in base

Recycling is the most underweighted return term in a private equity LPA. Two funds with identical investment performance and different recycling rights report materially different multiples, and the difference is documentary rather than investment skill.,The three limits that matter are the percentage cap, whether the right expires with the commitment period, and whether recycled capital is limited to returned cost or extends to profit. A right to recycle profit is a much larger permission than a right to recycle cost.,Recycling also extends the LP's exposure. Capital the LP thought it had back is called again, so the true duration of the commitment is longer than the distribution schedule suggests. Model the unfunded commitment as including the recycling capacity.

### Key-person provisions
A clause suspending the investment period, and sometimes triggering further consequences, if named individuals cease to devote substantially all of their time to the fund. It exists because the LP underwrote people, not an institution.

Formula: On trigger, further calls for new investments cease. The fee base freezes at its then level unless the LPA steps it down on the same event

A suspension that requires an affirmative LP vote to lift is a very different term from one that lifts automatically on the appointment of an acceptable replacement. The first gives the LPs control; the second gives it to the GP.,The list of named individuals is the negotiation. A key-person clause naming the whole investment committee is close to unfalsifiable; one naming two founders is real. Ask which individuals actually sourced and led the investments in the prior fund.,The fee treatment during a suspension is the term most often left out. A suspension with no fee step-down converts a governance protection into a period of paying full price for nothing.

### For-cause and no-fault removal
Two distinct rights to replace the GP. For-cause removal requires a defined bad act, usually established by a final judgment or award. No-fault removal requires only a high supermajority of LP commitments and no reason at all.

Formula: Consent needed = threshold * LP commitments. On a 500.0 fund, two thirds is 333.3 and three quarters is 375.0

The practical obstacle to any removal is coordination, not the threshold. Assembling three quarters of LP commitments among LPs who do not know each other's positions, inside a confidentiality regime that discourages them from comparing notes, is the real barrier. An LPA that permits LPs to communicate with each other lowers that barrier more than a lower threshold would.,For-cause removal conditioned on a final judgment is close to unusable, because the fund's remaining life is often shorter than the litigation. The negotiable improvements are a lower evidentiary standard and an interim suspension right pending resolution.,What happens to the carry on removal is the whole economic question and it is often buried. A GP removed for cause that keeps its full accrued carry has lost the fee and kept the upside.

### Limited partner advisory committee
A committee of selected LPs that reviews conflicts, approves valuations in some agreements, and consents to specified actions. Its powers are consultative except where the LPA gives it a consent right, most commonly over conflicted transactions.

LPAC approval of a conflicted transaction is the mechanism by which a GP-led secondary is cleared, and it is the single most consequential thing an LPAC does. An LPAC whose members are also being offered continuation-vehicle terms is approving a transaction it has an interest in.,The valuable procedural terms are the right to retain independent advisers at fund expense, a requirement that the GP present a written conflicts memorandum, and minutes that are made available to all LPs. None of them change the LPAC's power; all of them change what the other LPs can see.,An LP not on the LPAC should read the LPAC consent items as a list of things that will happen without its involvement, and price the terms accordingly.

### Most-favoured-nation elections
A right for an LP to elect into terms granted to another LP in a side letter. It is almost always subject to a commitment-size threshold, and to carve-outs for terms the electing LP is not eligible for.

Formula: An LP may elect into a side letter granted to an LP whose commitment is no larger than its own, or above a stated absolute threshold, whichever the LPA specifies

The MFN is worth what the carve-outs leave behind. If co-investment rights, fee discounts and reporting enhancements are all carved out, the election covers only the terms nobody wanted. Read the carve-out list before the threshold.,A tiered MFN, where a larger commitment unlocks a wider set of side letters, converts the MFN into a pricing mechanism for commitment size. That is a legitimate design and it should be priced as a volume discount rather than treated as a protection.,The disclosure schedule is more useful than the election right. An LP that sees the full set of side letters learns the actual price of access to the fund, whether or not it can elect into anything.

### Transfer restrictions and the secondary discount
A prohibition on transferring an LP interest without GP consent, together with conditions on any permitted transfer. It is the reason an LP interest is illiquid as a matter of contract rather than only as a matter of market.

Formula: What a buyer acquires = (LP commitment / C) * NAV, and assumes (LP commitment / C) * (C - cumulative calls) of unfunded commitment. The price is that NAV share less a discount for the marks, the unfunded, and the consent risk

The unfunded commitment is the part of a secondary purchase most often mispriced. A buyer at the end of year 3 of the reference fund takes on 31.94 percent of the original commitment still to be called, and on this fund most of that funds fees and expenses rather than new investments.,GP consent in its discretion is what makes a stapled secondary possible: the GP can condition consent on the buyer committing to the successor fund. That is not improper and it is a real cost to the seller, who is paying for the GP's fundraising.,Transfer restrictions and the secondary market together mean an LP's true liquidity is a price, not a right. An LP with any prospect of needing to exit should model the discount at which it could sell in a bad market rather than assume the marks.

### Defaulting LP remedies
The consequences of failing to fund a capital call. The remedies are cumulative and escalate: interest on the unpaid amount, suspension of distributions and voting rights, forced sale of the interest, and forfeiture of a stated share of the capital account.

Formula: Forfeited amount = f * capital account. Reallocated over the non-defaulting commitments, it is worth f * capital account / (C - defaulting commitment) per unit of their commitments

A default is almost never a decision; it is a liquidity failure. The remedy schedule exists to make the failure expensive enough that an LP sells its interest at a discount instead, which is the outcome everyone including the defaulting LP prefers.,The remedy that actually bites is suspension of distributions, because it applies immediately and requires no vote. Forfeiture requires the GP to act and creates a windfall for the other LPs that a court may look at, so it is used less often than it appears in the documents.,For an LP, the number to monitor is not the default remedy but its own unfunded commitment against its liquid resources. The pacing arithmetic on the cash-flow page is the tool for that, and it is a better protection than any provision in the LPA.

### Side letters
Bilateral agreements between the GP and an individual LP varying the LPA for that LP alone. They are the mechanism by which large investors obtain fee discounts, co-investment rights, enhanced reporting, excuse rights and regulatory accommodations.

Formula: Value of a fee discount of delta over an investment period of y years = delta * commitment * y. Value of a fee-free, carry-free co-investment right of amount Q = Q * (gross MOIC - net TVPI)

Co-investment rights are the most valuable side letter term and the least visible in a fee comparison, because they change the blended cost of the whole relationship rather than the stated fee. An LP that deploys as much again in fee-free co-investment has roughly halved its effective fee load on the strategy.,Excuse rights are the term most likely to affect other LPs, because an excused LP's share of an investment is reallocated to those who are not excused. An LP without excuse rights should know how much of the fund's commitments hold them.,The side letter schedule delivered at final close is the most informative document an LP receives during a fundraise, and it arrives after the commitment is signed. Asking for it before signing is the only way to price the terms.

### Fund-of-one and separately managed accounts
Single-investor vehicles. A fund-of-one is a partnership with one LP, run on a negotiated version of the flagship terms. A separately managed account is a mandate under which the investor owns the assets directly. Both trade diversification for control and fee leverage.

Formula: Value of the negotiated terms = the difference in LP distributions between the flagship terms and the negotiated terms, run on the same cash flows. It is computable exactly, because the cash flows are the same

Allocation, not fees, is the risk in a single-investor mandate. The vehicle performs like the flagship only if comparable assets are allocated to it, and the written allocation policy is therefore a more important term than the fee schedule.,The single largest structural gain available in a fund-of-one is the waterfall type, because it is a binary term the GP will trade for size when it will not trade the carry rate. Ask for whole-fund with a full clawback and an escrow before asking for a rate reduction.,A fund-of-one does not remove the fee-on-commitments problem; it moves it into a document with one reader. Pacing and deployment discipline matter more, not less, because there is no other LP watching the deployment rate.

### Continuation vehicles and GP-led secondaries
A transaction in which a fund sells one or more assets to a new vehicle managed by the same GP and funded by new investors, with existing LPs offered the choice of taking cash or rolling into the new vehicle. It is a conflicted transaction cleared through the LPAC.

Formula: The selling fund's proceeds equal the price paid by the continuation vehicle. Existing LPs elect cash or a rolled interest; the GP crystallises carry on the cash election

This is the second case on this site where net IRR and the multiple move in opposite directions, and the mechanism is identical to the subscription facility: cash arrives earlier and less of it arrives. An LP presented with a continuation vehicle should ask for the effect on DPI, not on IRR.,The rolling LP is usually offered status quo terms and the crystallisation of carry happens anyway on the cashing-out LPs' share. A roll is therefore not a neutral election - it changes the carry position of the asset even for the LP that did not sell.,The two questions that resolve most of the conflict are whether a genuine third-party price was tested and who paid the transaction costs. A process run with a single bidder that also anchors the price is not a price, and transaction costs charged to the selling fund are a further transfer.

### A fund-level NAV facility and what it does to reported metrics
Borrowing secured on the fund's portfolio, rather than on uncalled commitments. Where the proceeds are distributed, DPI rises without any realisation, RVPI falls by less than the distribution net of the debt, and the LP moves behind a secured lender.

Formula: After drawing and distributing an amount B against NAV: DPI rises by B/PIC; RVPI becomes (NAV - B)/PIC; TVPI is unchanged. LP look-through leverage on the remaining portfolio = NAV/(NAV - B)

TVPI being invariant to the facility is the cleanest available test. Reconcile every distribution to a named realisation; if DPI moves and TVPI does not, the cash came from somewhere other than a sale.,The facility is not automatically adverse. Financing a follow-on at the fund level can be cheaper than calling capital, and bridging a distribution around a bad market can be genuinely value-accretive. Financing a distribution to improve a metric during a fundraise is a different transaction wearing the same documents.,The disclosure question is not the loan-to-value but the portfolio decline at which LP equity is impaired, which is simply the LTV expressed the other way round. At 25 percent LTV that is a 25 percent decline, and it is a number no reporting template requires anyone to state.

#### LPA term map - what each term actually controls
Each row names the economic quantity the term changes and, where the reference fund makes it computable, the size of the effect.

| Term | Economic quantity it controls | Effect on the reference fund |
|---|---|---|
| Commitment period length | How long the fee runs on committed capital rather than invested | Each extra year at 2.00 percent on 500.0 costs 10.00 against 5.70 or less on the invested-capital base - roughly 4.30 per year of extension |
| Fund term and extensions | How long assets can be held before a forced sale, and whether a fee is charged during the extension | The reference fund realises inside a 10-year term. A one-year extension with fees at 1.50 percent of remaining cost would cost 0.60 on the year-10 basis of 40.0 |
| Recycling and reinvestment | Total capital deployed against total capital called | A 20 percent recycling right raises deployment from 425.0 to 525.0 on the same 500.0 of paid-in |
| Step-down trigger | Whether the fee falls on the calendar or on the successor fund's first close | 33.80 of fee, the spread between the widest and narrowest bases on the economics page |
| Fee offset percentage and definition | How much portfolio-company fee income reaches the LP | 12.0 of assumed offsettable income is worth 42.9 basis points of net IRR at a full offset |
| Waterfall type | When carry is paid, and whether losses net against gains | 8.1176 of carry and 56.8 basis points of net IRR |
| Catch-up share | The GP's share inside the band between the pref and its target share | The difference between the GP receiving 37.6360 and 50.1813 of catch-up distributions |
| Clawback scope and cap | Whether over-distributed carry is actually recoverable | 3.2471 of the 8.1176 clawback is unrecoverable under an after-tax cap at 40.00 percent |
| Key-person and removal provisions | Whether the fee and carry survive the departure of the people underwritten | Suspension of the investment period stops further calls for new investments; the fee base freezes where it is |
| MFN threshold | Which LPs can elect into terms granted to others | An LP at 25.0 of commitment is outside a 50.0 threshold entirely |
| Transfer restrictions | Whether an LP can exit and at what discount | Consent-based restrictions are the principal reason secondary pricing carries a discount to NAV |
| Default remedies | The cost of failing to fund a call | Forfeiture of 50 percent of a 17.7500 capital account transfers 8.8750 to the other LPs, being 1.8684 percent of their commitments |

#### Governance and removal thresholds
Thresholds are stated as a percentage of LP commitments or, in some agreements, of LP interests held by non-affiliated LPs. On the reference fund, 500.0 of LP commitments, so each percentage converts directly into a currency amount of consent needed.

| Action | Typical consent basis | Amount of commitments needed on a 500.0 fund | What it does not do |
|---|---|---|---|
| Suspend the investment period | A supermajority of LP commitments, commonly two thirds to three quarters | 333.3 at two thirds; 375.0 at three quarters | Does not terminate the fund, wind down existing investments, or stop the fee on invested capital |
| Remove the GP for cause | A majority to supermajority, after a final judgment or arbitral award establishing the cause | More than 250.0 for a bare majority | Cause definitions requiring a final non-appealable judgment can take years, during which the GP remains in place |
| Remove the GP without cause (no-fault divorce) | A high supermajority, commonly three quarters or more | 375.0 at three quarters | Usually leaves the GP with carry earned to date, or a stated fraction of it, and does not reverse fees already paid |
| Dissolve the fund early | A high supermajority | 375.0 at three quarters | Forces sales into whatever market exists on the day |
| Extend the term | GP discretion for the first extension, LPAC or LP consent thereafter | Varies by agreement | An extension without a fee holiday continues the fee on the remaining assets |
| Approve a conflicted transaction | LPAC approval, not LP vote | LPAC seats are appointed, not elected by size | LPAC approval is not a fiduciary release to the LPs who are not on it |

#### Continuation vehicle - selling investment D at its year-7 mark
Investment D is carried at 205.0 at the end of year 7 and would have realised 225.0 in year 8. A GP-led secondary sells it into a continuation vehicle at the carrying value in year 7. The whole-fund waterfall is re-run on the resulting cash flows.

| Measure | Hold to the year-8 exit | Sell to a continuation vehicle at the year-7 mark |
|---|---|---|
| Gross proceeds to the fund | 935.0 | 915.0 |
| Year 7 distribution | 310.0 | 515.0 |
| Year 8 distribution | 225.0 | 0.0 |
| GP carry paid by the end of year 7 | 0.0000 | 15.0800 |
| Total GP carry | 87.0000 | 83.0000 |
| Total LP distributions | 848.0000 | 832.0000 |
| LP DPI and TVPI | 1.6960x | 1.6640x |
| LP net IRR | 11.9825% | 12.1946% |
| What the LP gave up | - | 20.0 of realised value, in exchange for 205.0 received one year earlier |
| What the GP gained | - | 15.0800 of carry crystallised a year early at a price the GP set |

#### A fund-level NAV facility used to fund a distribution
At the end of year 6 the reference fund has 487.5 of paid-in capital, 140.0 of cumulative distributions and 615.0 of net asset value. A facility secured on the portfolio is drawn and the proceeds distributed. No asset is sold and no investment changes.

| Loan to value | Amount drawn and distributed | DPI | RVPI net of the facility | TVPI | LP look-through leverage on the remaining portfolio |
|---|---|---|---|---|---|
| None | 0.000 | 0.2872x | 1.2615x | 1.5487x | 1.0000x |
| 10 percent | 61.500 | 0.4133x | 1.1354x | 1.5487x | 1.1111x |
| 20 percent | 123.000 | 0.5395x | 1.0092x | 1.5487x | 1.2500x |
| 25 percent | 153.750 | 0.6026x | 0.9462x | 1.5487x | 1.3333x |
| 35 percent | 215.250 | 0.7287x | 0.8200x | 1.5487x | 1.5385x |

## Cash-flow mechanics
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/cash-flows/ (JSON: https://pe-finance.wiki/cash-flows.json)

An LP's experience of a private equity fund is a sequence of demands for money and a sequence of payments, neither of which it controls. Almost all of the arithmetic an LP actually needs is here: what a call can be for, what a late investor owes the early ones, what makes a distribution recallable, and how much to commit per year to hold a target exposure. Every figure derives from the reference fund's call and distribution schedule.

### Capital call
A binding demand on each LP for its pro rata share of an amount the fund needs, with a stated purpose and a stated funding date. The LP's obligation is contractual and is not conditional on the LP's view of the investment.

Formula: LP's share = call amount * (LP commitment / total commitments), adjusted upward for any excused or defaulting LP's reallocated share

The notice period is the LP's real constraint, not the total commitment. A ten-business-day notice on a call worth 23.86 percent of commitments requires cash or a committed facility, and it will arrive without warning.,Calls after the commitment period are the ones LPs most often fail to plan for. On the reference fund 18.70 is called in years 6 to 10, none of it for a new investment, and it arrives when the LP has mentally closed the position.,Read the stated purpose on every notice and keep a running total by category. A call for fees when the fee base should have stepped down is the most common and most easily recovered fee error, and it is only visible from the notices.

### Equalisation of a subsequent closer
The mechanism placing an LP admitted at a later closing in the same position as the first-close LPs. The late LP contributes its share of prior calls, plus interest for the period the earlier LPs' money was outstanding, plus management fee for the period since the fund's start.

Formula: Catch-up = (cumulative calls / first-close commitments) * late commitment. Equalisation interest = catch-up * r * average age of the prior calls. Backdated fee = fee rate * late commitment * elapsed period

Two things vary between agreements and both are worth reading: the rate, and whether the interest is paid to the earlier LPs or retained by the fund. Retention by the fund converts a payment between partners into a reduction of the fund's expenses, which is not the same thing.,The average age of the prior calls is an approximation in most documents and an exact calculation in a few. On a fund with a large early call the approximation understates what the late LP owes, and the amount is small enough that nobody argues.,The backdated management fee is the larger of the two components here - 1.500000 against 0.750000 - and it is the one a late investor most often does not expect. An LP negotiating admission at a later close should confirm whether it pays fee from the fund's inception or from its own admission.

### Paid-in against drawn, and why they can differ
Drawn capital is what the fund has called. Paid-in capital is what the LPs have actually paid. They diverge when a call is outstanding, when an LP is in default, and permanently when the LPA treats a recalled distribution as reducing paid-in rather than adding to it.

Formula: PIC = cumulative calls - amounts unpaid + amounts recalled and refunded, subject to the LPA's recallable-distribution convention

This is the most common source of an irreconcilable set of published multiples. Two managers can report DPI on the same cash flows 0.1427x apart with neither of them stating a convention, and no reader can detect it from the report alone.,The check is simple and rarely run: ask for cumulative calls and cumulative paid-in as separate lines. If they differ, ask why, and the answer will name either a default or a recall.,An LP building its own performance record should compute everything from its own bank statements rather than from the manager's capital account statement. The bank statements have exactly one convention.

### Recallable distributions
Distributions the LPA permits the GP to call again. They are the mechanism through which recycling operates, and they mean an LP's unfunded commitment is not simply commitments less calls.

Formula: Effective unfunded commitment = (C - cumulative calls) + recallable distributions outstanding, capped by the recycling limit

This is the single largest gap between the unfunded commitment an LP reports internally and the amount it may actually be asked for. A liquidity model built on commitments less calls understates the obligation by the whole recycling capacity.,The three limits to check are the percentage cap, whether the right survives the end of the commitment period, and whether it applies to distributions of profit as well as of capital. A right limited to returns of capital within the commitment period is a modest term; one extending to profit for the whole term is not.,Recallable distributions also break the intuition that DPI is monotonic. A fund's DPI can fall from one report to the next without any write-down, simply because cash came back.

### Distributions in specie
A distribution of securities rather than cash, usually shares in a portfolio company that has listed. The fund records the distribution at a stated valuation and the LP receives an asset it must sell itself.

Formula: Distribution recorded = shares * valuation on the distribution date. LP realised proceeds = shares * price achieved, less transaction costs and any lock-up effect

The valuation convention is the whole term. A distribution valued at the closing price on a single date, of a stock the LPs collectively cannot sell in a single day, records a value that no LP can realise. A volume-weighted average over a stated window is the fairer construction and it is negotiable.,A lock-up remaining on the shares at the distribution date makes the recorded value fictional by construction. Ask whether the shares are freely tradable and, if not, whether the valuation reflects a discount for the restriction.,In-specie distributions also transfer a tax event to the LP on the fund's timetable rather than the LP's. For a taxable LP that is a real cost separate from the price risk.

### Unfunded commitment
The amount an LP is still obliged to fund. It is the source of all liquidity risk in a private equity allocation, because it is a claim that can be exercised at any time, in an amount the LP does not control, most likely in the conditions in which the LP least wants to fund it.

Formula: Unfunded = C - cumulative calls + recallable distributions outstanding. Unfunded-years per unit of commitment = sum of the annual unfunded balances / C

Unfunded commitment is not a liability on the balance sheet and it behaves exactly like one. The only sound way to hold it is against liquid assets that will still be liquid in the conditions that produce the call, which rules out holding it against the same equity market the fund invests in.,The unfunded-years figure of 1.845400 is the constant that makes a pacing model work, and it is specific to the fund's call profile. A fund that calls faster has fewer unfunded-years and a smaller steady-state unfunded balance for the same commitment pace.,A subscription facility reduces the frequency of calls and does not reduce the obligation. It shifts the same total drawing later and adds interest, which makes each individual call larger. The liquidity requirement does not improve.

### Over-commitment
Committing more in aggregate than the cash available to fund it, relying on distributions from earlier vintages to fund later calls. It is not a strategy so much as an unavoidable consequence of holding a target NAV with a fund structure that returns capital.

Formula: Over-commitment ratio at steady state = (NAV + unfunded)/NAV = 1 + unfunded-years/NAV-years

The failure mode is not the ratio but the correlation. Every vintage in a programme calls capital in a bad market and distributes nothing in the same market, so the offsetting flows an over-commitment relies on disappear together. The reference fund's year-4 profile - 90.50 called, nothing distributed - is what that looks like for one vintage.,The right stress test is straightforward and rarely run: assume distributions go to zero for eight consecutive quarters and calls continue at the modelled pace, then check whether the liquid reserve covers the gap. On a 200.0 NAV programme at a 32.8731 pace, two years of calls at the reference fund's profile is a substantial demand against no inflow.,Over-commitment is often described as a way to raise exposure. It is more accurately a way to avoid a persistent shortfall in exposure, because a programme committing only what it holds in cash will hold a NAV well below its target for the whole build-up.

### The pacing model in two constants
A commitment programme reaches a steady state in which the sum of live vintages' NAVs is constant. The pace needed to hold a target NAV is the target divided by the NAV-years a unit of commitment generates, and the resulting unfunded balance is the pace multiplied by unfunded-years.

Formula: Pace = target NAV / (sum of NAV_t / C). Steady-state unfunded = pace * (sum of unfunded_t / C). Both constants are properties of the fund's cash flow profile, not of its returns

The steady-state identity that the annual call equals the annual commitment pace is worth holding onto: it is true whenever total calls equal total commitments, which is the reference fund's case exactly. A fund that never fully calls its commitments, or that recycles, breaks it in opposite directions.,Both constants come from the fund's cash flow profile and not from its performance, which is what makes the model usable before any returns are known. A slower-deploying fund produces fewer NAV-years per unit committed and therefore needs a higher pace for the same target.,The most common pacing error is to model the target as a percentage of total portfolio assets and then not re-solve as those assets move. A falling public market raises the private allocation percentage without a single private cash flow occurring, and cutting the commitment pace in response is what produces the vintage-year gap that shows up eight years later.

### Reading a distribution notice
A distribution notice states an amount, a source, a characterisation as return of capital or profit, and whether the amount is recallable. All four matter and only the first is always read.

Reconciling distributions to named realisations is the whole of the discipline. On the reference fund every distribution has a named investment behind it and the totals tie: 110.0, 30.0, 310.0, 225.0, 180.0 and 80.0 against investments A to F. Any distribution without a named source is worth a question.,The characterisation drives the waterfall. Because return of capital reduces the pref base, a distribution characterised as capital rather than profit reduces the preferred return accruing thereafter, which is why the reference fund's pref stops accruing entirely after year 8.,A recallable distribution has not reduced the LP's exposure at all, and it is the line most often omitted from an internal exposure report.

#### Capital call - the sequence and what each element controls
A capital call notice is a contractual demand, not a request. The sequence below is the one an LPA normally sets out, and each step has a consequence for the LP's own liquidity management.

| Step | What it does | Why it matters to the LP |
|---|---|---|
| Notice period | The number of business days between the notice and the funding date, commonly ten | Sets the shortest liquidity horizon an LP must maintain against its unfunded commitment |
| Stated purpose | Investments, management fee, partnership expenses, or indemnity obligations | The reference fund calls 18.70 after the end of the commitment period, none of it for new investments |
| Pro rata calculation | Each LP's share of the call equals its commitment over total commitments, unless an LP is excused or defaulting | An excused or defaulting LP's share is reallocated to the others, so a call can exceed the pro rata amount |
| Wire instructions and account | Where the money goes | A change of bank details in a call notice is the standard vector for payment fraud; verify out of band, always |
| Default interest | Interest running from the funding date on any unpaid amount | Runs regardless of the reason for non-payment, including an administrative failure |
| Escalating remedies | Suspension of distributions and votes, forced transfer, forfeiture of a share of the capital account | Forfeiture of 50 percent of a 17.7500 capital account transfers 8.8750 to the other LPs |

#### Equalisation of a subsequent closer
The fund holds a first closing on 400.0 of LP commitments and a subsequent closing on a further 100.0 nine months later, reaching the 500.0 of the reference fund. By the subsequent closing, 75.0 has been called from the first-close LPs, being 18.7500 percent of their commitments. The equalisation rate is assumed equal to the 8.00 percent preferred return rate for legibility; the LPA may use any stated rate.

| Component | Computation | Amount |
|---|---|---|
| Catch-up contribution | 18.7500 percent of the late LP's 100.0 commitment | 18.7500 |
| Equalisation interest on it | 18.7500 x 0.08 x 0.50, using an average age of the prior calls of six months | 0.750000 |
| Management fee for the pre-admission period | 2.00 percent x 100.0 x 0.75 years | 1.500000 |
| Interest on that fee | 1.500000 x 0.08 x 0.375, being half the nine-month period | 0.045000 |
| Total payable at admission | sum of the four lines above | 21.045000 |
| Of which compensation to the first-close LPs | 0.750000 + 0.045000 | 0.795000 |
| As a percentage of first-close commitments | 0.795000 / 400.0 | 0.198750 percent |
| Position after equalisation | First close 75.0 on 400.0; late LP 18.7500 on 100.0 | Both at 18.7500 percent of commitments |

#### Recallable distributions - the two DPI conventions on identical cash
The LPA permits recycling of up to 20 percent of commitments. 100.0 distributed in year 7 is recalled, redeployed at cost, and realised in year 10 at 2.00x for 200.0. The whole-fund waterfall is re-run: gross proceeds become 1035.0, total cost deployed becomes 525.0, GP carry rises to 107.0000 and LP distributions to 928.0000.

| Convention | Paid-in capital | Cumulative distributions | DPI | Net IRR |
|---|---|---|---|---|
| Base case, no recycling | 500.0 | 848.0000 | 1.6960x | 11.9825% |
| Net convention: the recall reduces cumulative distributions and does not increase paid-in | 500.0 | 928.0000 | 1.8560x | 12.8497% |
| Gross convention: the recall is treated as a contribution and the original distribution stays in | 600.0 | 1028.0000 | 1.7133x | 12.8497% |
| Difference between the two conventions | 100.0 | 100.0000 | 0.1427x | none - the cash flows are identical |

#### Unfunded commitment and the pacing arithmetic
Unfunded commitment is 500.0 less cumulative calls at each year end. NAV-years and unfunded-years are the sums of those two series divided by the commitment, and they are the two constants a pacing model needs: they convert a commitment pace into a steady-state exposure.

| Year | Cumulative called | Unfunded commitment | NAV | Unfunded as a percent of commitments |
|---|---|---|---|---|
| 1 | 119.30 | 380.70 | 105.0 | 76.140 |
| 2 | 229.80 | 270.20 | 215.0 | 54.040 |
| 3 | 340.30 | 159.70 | 355.0 | 31.940 |
| 4 | 430.80 | 69.20 | 515.0 | 13.840 |
| 5 | 481.30 | 18.70 | 545.0 | 3.740 |
| 6 | 487.50 | 12.50 | 615.0 | 2.500 |
| 7 | 492.80 | 7.20 | 395.0 | 1.440 |
| 8 | 496.60 | 3.40 | 225.0 | 0.680 |
| 9 | 498.90 | 1.10 | 72.0 | 0.220 |
| 10 | 500.00 | 0.00 | 0.0 | 0.000 |
| Sum over the ten years | - | 922.70 | 3042.0 | - |
| Per 1.00 of commitment | - | 1.845400 unfunded-years | 6.084000 NAV-years | - |

#### Pacing a target allocation
A programme that commits the same amount every year to funds identical to the reference fund reaches a steady state in which the sum of the ten live vintages' NAVs is constant. The annual pace needed is the target NAV divided by NAV-years per unit of commitment.

| Target steady-state NAV | Annual commitment pace | Steady-state unfunded commitment | Total exposure, NAV plus unfunded | Over-commitment ratio |
|---|---|---|---|---|
| 100.0 | 16.4366 | 30.3321 | 130.3321 | 1.3033x |
| 200.0 | 32.8731 | 60.6640 | 260.6640 | 1.3033x |
| 500.0 | 82.1828 | 151.6601 | 651.6601 | 1.3033x |
| 1000.0 | 164.3656 | 303.3202 | 1303.3202 | 1.3033x |
| Formula | target / 6.084000 | pace x 1.845400 | sum of the two | 1 + 1.845400/6.084000 |

#### In-specie distribution of listed stock
Investment C realises 310.0 in year 7. If 60.0 of that is distributed in listed shares rather than cash, the fund records the distribution at the distribution-date value and the LP bears the price change until it can sell.

| Price move before the LP can sell | Value the LP actually receives | Distribution recorded by the fund | Value of the year-7 distribution to the LP |
|---|---|---|---|
| -20% | 48.0 | 310.0 | 298.0 |
| -10% | 54.0 | 310.0 | 304.0 |
| 0% | 60.0 | 310.0 | 310.0 |
| +10% | 66.0 | 310.0 | 316.0 |

## Valuation and reporting
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/valuation/ (JSON: https://pe-finance.wiki/valuation.json)

A private equity NAV is an estimate produced by the party being measured, prepared under an accounting standard that asks for an exit price rather than a hold value. This section applies that standard to one position in the reference fund, shows what calibration does to the mark, sets out the reporting lines that make a NAV auditable by an LP, and quantifies what a one-quarter reporting lag does to a reported figure. Valuation method itself - discounted cash flow construction, comparable company selection, terminal value - belongs to a different reference; what is here is the part specific to a fund's own reporting.

### ASC 820 fair value applied to a private equity position
The requirement to measure an investment at the price that would be received to sell it in an orderly transaction between market participants at the measurement date. It is an exit price at a date, not a hold-to-maturity value and not the manager's view of what the asset is worth to it.

Formula: Market approach: equity fair value = multiple * metric - net debt. Income approach: equity fair value = present value of free cash flow at the required return, less net debt

The most valuable disclosure in a private equity financial statement is the quantitative table of significant unobservable inputs, because the sensitivity arithmetic is one line. A portfolio marked at a weighted average multiple materially above the disclosed comparable range is internally inconsistent, and the inconsistency is computable from the statement.,Net debt does the work that nobody looks at. Equity value moves one for one with net debt, so a mark can change materially with no change in the multiple or the earnings. Ask for the net debt at each measurement date alongside the multiple.,Rule 2a-5 under the Investment Company Act places responsibility for fair value determination on a registered fund's board with permitted designation to the adviser. It does not apply to a private fund relying on section 3(c)(1) or 3(c)(7), where the valuation policy in the LPA and the auditor are the only governance.

### The calibration approach
Requiring the valuation model to reproduce the transaction price on the acquisition date, then carrying the implied adjustment forward and reassessing it at each subsequent measurement date. It prevents a day-one gain or loss and forces the valuer to state why the price paid differed from the observable comparables.

Formula: Calibration adjustment = multiple implied by the transaction price - the comparable multiple at acquisition. Subsequent marks apply the comparable multiple plus that adjustment, unless the reason for it has ceased to apply

Calibration solves the day-one problem and creates a second one: the adjustment persists until someone decides it should not. The discipline is to state at each measurement date what the premium is for - a control position, a synergy, a growth profile the comparables do not have - and to remove it when the reason expires.,In the worked case the adjustment survived to the final mark and did not survive the sale. That is the normal failure and it is why the useful test is not whether the mark was calibrated but whether the calibration adjustment has ever been reduced.,A calibration adjustment above the top of the comparable range is a statement that the fund overpaid or that the comparables are wrong. Either is possible; both should be written down in the valuation memorandum rather than embedded in a multiple.

### Comparables, discounted cash flow, and transaction price as marks
The three routes to a Level 3 equity mark. They are not alternatives to be averaged; they carry different information and disagree in a way that is itself the useful output.

Formula: Market approach: V = x * EBITDA - ND. Income approach: V = sum of FCF_t/(1 + r)^t + terminal value - ND. Transaction approach: V = the price in a recent orderly transaction in the same instrument

A spread of 50 percent of carrying value between methods is not a failure of the valuation; it is the honest width of the estimate. A valuation memorandum that reports a single number without the spread has discarded the most informative thing it computed.,The income approach is the one most sensitive to a single assumption. At a 4.00 percent growth rate and an 11.00 percent discount rate the denominator is 0.07, so a one-point change in either input moves the enterprise value by roughly 14 percent. That sensitivity is why the market approach dominates buyout marks in practice.,A transaction price is the strongest available input on the day it happens and decays quickly. The useful question is not whether there was a transaction but whether market conditions and the company's performance have changed since it, and that is a judgment that has to be written down.

### How the NAV timing lag changes a reported return
A fund normally reports a quarter-end NAV using portfolio company financial information from the prior quarter, and comparable multiples from a date before the reporting deadline. The reported value is therefore stale by roughly one quarter, in whichever direction the portfolio was moving.

Formula: Lagged mark = true value / (1 + g_q), where g_q is the quarterly change. Misstatement as a fraction of NAV = -g_q/(1 + g_q). Effect on reported TVPI = misstatement / paid-in

The lag is the main mechanical reason reported private market volatility is lower than public market volatility on the same underlying exposure. It is not smoothing in the sense of a deliberate policy; it is an accounting deadline interacting with a filing calendar, and it produces the same effect.,The lag matters most for anything computed at a point in time - a horizon IRR, an allocation percentage, a NAV-based fee, or a NAV facility covenant. All four are struck on a number that is a quarter out of date, and in a fast-moving quarter that is the difference between compliance and breach.,The correction, where a manager makes it possible, is to ask whether marks reflect events between the financial-information date and the reporting date. A fund that rolls forward for known events after quarter end is doing something materially different from one that does not, and the difference is invisible in the reported number.

### Accrued carried interest in the reported NAV
Carried interest the GP would be entitled to if the portfolio were realised at its carrying value, accrued as a liability of the fund and deducted in arriving at LP net asset value. It is an estimate resting on an estimate, and it reverses if marks fall.

Formula: Accrued carry = k * max(0, (cumulative distributions + NAV) - PIC - unpaid preferred return), computed as if the fund liquidated at NAV on the reporting date

An accrued carry line that has never reversed on a fund whose marks have moved is worth a question. The accrual is highly non-linear in the marks: on the reference fund at year 6 a 20 percent decline in NAV takes the accrual from 53.500 to 25.180, and a 24.09 percent decline takes it to zero.,Whether a fund reports NAV gross or net of accrued carry changes RVPI and TVPI, and both presentations exist. The reference fund's 1.2615x RVPI at year 6 is gross of the accrual; net of it, 1.1518x. Check which convention a report uses before comparing two funds.,The accrual is also the number that reveals where the fund sits in its own waterfall, which no other line in the report states. An accrual of zero on a fund reporting a 1.5x TVPI means the pref has not been cleared, and that is useful to know.

### Management fee and expense disclosure
The schedule reconciling gross management fee to net, listing partnership expenses by category, disclosing fees received by the manager or its affiliates from portfolio companies, and stating interest on fund-level borrowing separately.

Formula: Net management fee = gross fee - offset credit applied. Total cost borne by the LP = net fee + partnership expenses + fund-level interest + carried interest

The single line that matters most and is most often absent is fund-level interest expense. It is the price of the subscription facility, and it is the number that lets an LP size the IRR distortion without recomputing anything.,Expenses charged to the fund rather than to the manager are the largest genuinely negotiable item after the fee itself. The categories worth reading are broken-deal costs, the cost of the manager's own operating partners and in-house resources, technology and data costs, and the cost of the fund's own regulatory compliance.,Organisational costs are normally capped in the LPA and the cap is normally hit. On the reference fund 3.8 in year 1 is 0.76 percent of commitments; whether a cap exists and where it sits is a term worth checking rather than assuming.

### Who determines the mark, and what an LP can verify
In a private fund the valuation policy in the LPA, the GP's internal process, and the annual audit are the whole of the governance. There is no board and no statutory fair value process, so the verifiable items are procedural.

Formula: Independent check on any disclosed mark: equity value = disclosed multiple * disclosed portfolio metric - disclosed net debt. Any gap against the carrying value is the unexplained residual

An independent valuation firm engaged to provide a positive assurance opinion on the marks is a materially different arrangement from one engaged to provide a range within which the GP may select. Ask which, and ask whether the scope covers every position or a sample.,The audit tests process and material misstatement at the fund level. It is not a position-by-position revaluation, and an unqualified opinion is consistent with individual marks that later prove wide of the realisation.,The most useful thing an LP can build is its own history of last-mark against realisation, by investment, across the manager's prior funds. It requires only data the LP already receives and it is the only measure of a manager's marking behaviour that does not rely on the manager's own description of its process.

#### ASC 820 fair value hierarchy applied to a private equity position
The hierarchy classifies by the observability of the valuation inputs, not by asset type and not by the confidence of the valuer. A controlling equity stake in a private company is a Level 3 measurement whatever the quality of the comparables used.

| Level | Inputs | Where a buyout fund's positions fall |
|---|---|---|
| Level 1 | Quoted prices in active markets for identical assets | Listed stock received in specie on an initial public offering, subject to any lock-up affecting whether the quoted price is the fair value of the restricted instrument |
| Level 2 | Observable inputs other than Level 1 quotes - quoted prices for similar assets, observable indices, broker quotes in a functioning market | Rare in buyout. A recent third-party transaction in the same security can support a Level 2 classification while it remains current |
| Level 3 | Unobservable inputs; the measurement reflects the reporting entity's own assumptions | The great majority of positions. Valued by a market approach using comparable multiples, an income approach using discounted cash flow, or a recent transaction price |
| Required Level 3 disclosure | Reconciliation of opening to closing balances, transfers in and out, quantitative information about significant unobservable inputs, and a description of the valuation processes | The unobservable-input table - the multiple range and the discount rate range - is the most informative thing a fund publishes about its marks |

#### Calibration on investment D
Investment D was acquired in year 3 for 100.0 of equity and realised in year 8 for 225.0. The calibration approach requires the valuation model to reproduce the transaction price at acquisition, and the adjustment implied by that requirement to be carried forward and reassessed at each subsequent measurement date.

| Measurement date | EBITDA | Comparable multiple | Calibration adjustment | Multiple applied | Enterprise value | Net debt | Equity fair value |
|---|---|---|---|---|---|---|---|
| Year 3, acquisition | 30.0 | 7.5x | +0.5 turns, implied by the transaction price | 8.0x | 240.0 | 140.0 | 100.0, equal to cost |
| Year 7, mark | 50.0 | 6.5x | +0.5 turns, carried forward | 7.0x | 350.0 | 145.0 | 205.0 |
| Year 7, without calibration | 50.0 | 6.5x | none | 6.5x | 325.0 | 145.0 | 180.0 |
| Year 8, realised | 56.0 | 6.5x achieved | not realised | 6.5x | 364.0 | 139.0 | 225.0 |
| Sensitivity at the year-7 mark | - | - | - | 1.0 turn | 50.0 | - | 50.0, or 24.39 percent of the 205.0 mark |

#### Three approaches to the same position at the year-7 measurement date
The three approaches applied to investment D at the end of year 7, when it is carried at 205.0 and will realise 225.0 in year 8. Inputs are assumed and chosen so each approach is reproducible; no claim is made that any is the correct answer.

| Approach | Inputs | Computation | Indicated equity value |
|---|---|---|---|
| Market approach, comparable companies | EBITDA 50.0, calibrated multiple 7.0x, net debt 145.0 | 50.0 x 7.0 - 145.0 | 205.0 |
| Market approach, uncalibrated | EBITDA 50.0, comparable multiple 6.5x, net debt 145.0 | 50.0 x 6.5 - 145.0 | 180.0 |
| Income approach, discounted cash flow | Free cash flow 30.0 growing at 4.00 percent, discount rate 11.00 percent, so a perpetuity value of 30.0/(0.11 - 0.04), less net debt 145.0 | 428.571 - 145.0 | 283.571 |
| Transaction price | No transaction since acquisition in year 3 | not available | not available |
| Recent transaction in the same security | None | not available | not available |
| Spread across the available approaches | - | 283.571 less 180.0 | 103.571, or 50.52 percent of the 205.0 carried value |

#### ILPA Reporting Template - the lines that make a NAV auditable
The ILPA Reporting Template standardises a partners' capital account statement and a schedule of fees, expenses and carried interest. The lines below are the ones an LP can tie to its own bank records and to the waterfall. Reference fund figures are the fund-level totals over the fund's life.

| Statement | Line item | Reference fund, life to date |
|---|---|---|
| Partners' capital account | Beginning balance | 0.0 at inception |
| Partners' capital account | Contributions - cash and non-cash | 500.0 |
| Partners' capital account | Distributions - cash and non-cash, split between return of capital and profit | 848.0, of which 500.0 is return of capital |
| Partners' capital account | Distributions subject to recall, stated separately | 0.0 in the base case; 100.0 if the recycling right is exercised |
| Partners' capital account | Total net operating income and expense | gross proceeds 935.0 less cost 425.0 less fees 66.2 less expenses 8.8 |
| Partners' capital account | Carried interest - accrued, paid, and reversed, shown separately | 87.0 paid under the whole-fund waterfall; 95.1176 paid and 8.1176 reversed under deal-by-deal |
| Partners' capital account | Ending balance, and unfunded commitment | 0.0 and 0.0 at termination |
| Fee, expense and carry schedule | Management fee gross, offsets applied, management fee net | 66.2 gross; 12.0 of assumed offsettable income; 54.2 net at a full offset |
| Fee, expense and carry schedule | Partnership expenses by category, including organisational costs | 8.8, of which 3.8 is organisational cost in year 1 and 0.5 per year is ordinary partnership expense in every year including year 1 |
| Fee, expense and carry schedule | Interest expense on fund-level borrowing, stated separately | 0.0 in the base case; 25.5 with a 12-month subscription facility |
| Fee, expense and carry schedule | Fees paid to the manager or its affiliates by portfolio companies | 12.0 assumed, whether or not offset |
| Performance | Gross and net IRR, and gross and net multiples | 17.2915 percent gross and 11.9825 percent net; 2.2000x gross MOIC and 1.6960x net TVPI |

#### What a one-quarter reporting lag does
A fund reporting a quarter-end NAV using portfolio company financials from the prior quarter reports a value one quarter stale. The table takes the reference fund's annual NAV path, implies a constant quarterly growth rate within each year, and reports the resulting misstatement.

| Year | NAV at prior year end | NAV at year end | Implied quarterly change | One-quarter-lagged mark | Misstatement | Effect on reported TVPI |
|---|---|---|---|---|---|---|
| 6 | 545.0 | 615.0 | +3.0670% | 596.6992 | -18.3008, or -2.9757 percent of NAV | -0.0375x on 487.5 of paid-in |
| 7 | 615.0 | 395.0 | -10.4779% | 441.2316 | +46.2316, or +11.7042 percent of NAV | +0.0938x on 492.8 of paid-in |

## Tax and structure basics
Reviewed: 2026-08-27
Canonical: https://pe-finance.wiki/tax/ (JSON: https://pe-finance.wiki/tax.json)

Fund tax structuring is jurisdiction-specific, investor-specific and changes with legislation, so what follows is structural only: what each mechanism is for, which code section governs it, and what arithmetic it changes. It states no conclusion about any particular fund, investor or transaction, and every point here requires tax counsel before it is acted on.

### Section 1061 and the three-year holding period
A rule recharacterising long-term capital gain allocated to an applicable partnership interest as short-term unless the relevant holding period exceeds three years. An applicable partnership interest is one transferred to or held by a taxpayer in connection with the performance of substantial services in an applicable trade or business - which is what a carried interest is.

Formula: Recharacterised amount is computed under the section 1061(a) mechanics and the regulations thereunder. The test applies to the holding period of the asset disposed of, and in specified cases to the holding period of the partnership interest itself

The practical effect is on holding period decisions at the margin, and it is one of the few tax rules that can align a GP with a longer hold. A sale at two years and eleven months and a sale at three years and one month can carry materially different after-tax outcomes for the carry recipients on the same price.,The rule is a recharacterisation, not a disallowance. It changes the rate applied to gain the GP receives and does not change how much the GP receives, so it has no effect on any figure in the waterfall on the economics page.,The mechanics, the treatment of tiered partnerships, and the scope of the capital interest exception are set out in regulations and are detailed. Nothing here is a substitute for reading them with counsel.

### Blocker corporations and UBTI
A corporation interposed so that a US tax-exempt investor receives dividends or share-sale proceeds instead of an allocable share of unrelated business taxable income. The two usual sources of UBTI in a fund are income from an operating business held in flow-through form and debt-financed income under the section 514 rules.

Formula: Cost of the blocker = corporate-level tax on the income earned inside it. Benefit = the tax-exempt investor avoids the UBTI allocation and the associated Form 990-T filing

The structuring question is almost never whether a blocker works but who pays for it. An LPA that spreads blocker tax costs across all LPs transfers value from taxable US investors to tax-exempt ones, and the allocation provision is the term to read.,Most buyout investments are held through corporations for exactly this reason, which is why UBTI is more often a private credit and real assets problem than a buyout one. A fund that acquires a flow-through target is making a structuring decision with consequences for a subset of its LPs.,The section 514 debt-financed income rules are the reason fund-level leverage is a tax question and not only an economic one. A NAV facility or a subscription line secured at the fund level can have consequences for a tax-exempt investor that the economic analysis does not surface.

### Blockers and effectively connected income
A corporation interposed so that a non-US investor holds stock rather than a partnership interest that would allocate income effectively connected with a US trade or business. Without it, the non-US investor acquires a US filing obligation and is subject to withholding under section 1446.

Whether a buyout fund is engaged in a US trade or business at all is a fact question about its activities, and the answer differs between a fund holding corporate stock and one holding flow-through interests or originating loans. The structuring follows the answer rather than the strategy label.,Section 1446 withholding is the operational consequence non-US LPs feel most, because it takes cash out of a distribution regardless of the eventual tax outcome. The refund mechanism works and it takes time.,Treaty position, not just blocker presence, determines the after-tax result for a non-US investor. Two investors behind the same blocker in different jurisdictions receive different net amounts from the same distribution.

### Management fee waivers
An arrangement under which the GP waives management fee otherwise payable and receives instead a priority allocation of future fund profit of a broadly corresponding amount, frequently used to fund all or part of the GP commitment.

Formula: Fee waived reduces the LP's fee-funded capital calls. The GP receives a priority profit allocation instead, so the amount moves from a fee to a share of profit

From the LP's side the question is not the tax treatment, which is the GP's problem, but whether the waiver is being used to fund a GP commitment that the LP believed was cash from the principals. Those are different alignment facts and the LPA disclosure is where to look.,A waiver also changes the reported fee. A fund that waives fee and takes a priority profit allocation reports a lower management fee and a higher profit allocation to the GP, on identical economics. Comparing fee levels across managers without checking for waivers compares nothing.,The 2015 proposals under section 707(a)(2)(A) remain proposed. Anything built on the current treatment should be revisited with counsel rather than assumed stable.

### A fee and a distribution are not the same thing
A management fee is a payment for services, deductible or capitalisable at the fund level depending on the facts, and ordinary income to the recipient. A distribution of profit is a share of the partnership's income, taking the character of the underlying income. The same amount of money produces different results depending on which it is.

Formula: Fee: an expense of the fund and ordinary income to the manager. Profit allocation: no fund-level expense, and the character of the underlying income flows through to the recipient

This distinction is why a fee waiver is attractive and why it is scrutinised: it converts ordinary income into a share of capital gain without changing the amount. The economics are close to identical and the tax outcome is not.,The same distinction runs through the whole of the waterfall arithmetic on the economics page. Fees enter paid-in capital and therefore raise the amount that must be returned before carry; carry does not. That is why the reference fund's 66.2 of fees increases the return-of-capital tier and the 87.0 of carry does not.,Characterisation is a question of substance and it is not for the parties to elect by labelling. Nothing here is advice on where any particular arrangement falls; the point is only that the label changes the arithmetic as well as the tax.

#### Section 1061 and the carried interest holding period
IRC section 1061, added by the Tax Cuts and Jobs Act of 2017, recharacterises long-term capital gain as short-term in respect of an applicable partnership interest held in connection with the performance of substantial services, unless a three-year holding period is met. It is a holding period rule, not a rate rule, and it applies on top of the ordinary section 1222 one-year test.

| Holding period of the underlying asset | Treatment of gain allocated to the carried interest | Reference fund investments |
|---|---|---|
| One year or less | Short-term capital gain under the ordinary rules; section 1061 changes nothing | None. The shortest hold is four years |
| More than one year but not more than three years | Long-term under the ordinary rules, recharacterised as short-term by section 1061 for the applicable partnership interest | None |
| More than three years | Long-term capital gain; section 1061 does not apply | All six investments, held four to five years |
| Capital gain allocated to a capital interest | Excluded from section 1061 where the capital interest exception applies | The GP's 10.0 commitment, subject to the conditions in the regulations |
| Section 1231 gains and qualified dividend income | Outside the scope of section 1061 as drafted | Not applicable to the worked example |

#### Blocker structures by investor type
A blocker is a corporation interposed between the fund and an investment, or between an investor and the fund, so that a character of income the investor cannot hold is converted into corporate income and then into a dividend or a share sale. The cost is corporate-level tax; the benefit is that the investor's own tax position is preserved.

| Investor | Problem | Code sections engaged | Structural response |
|---|---|---|---|
| US tax-exempt investor - pension plan, endowment, foundation | Unrelated business taxable income arising from debt-financed income or from an operating business held in flow-through form | IRC sections 511 to 514, in particular 512(b) and the 514 debt-financed income rules | A blocker corporation holding the flow-through interest, so the tax-exempt investor receives dividends or share-sale proceeds rather than allocable UBTI |
| Non-US investor | Income effectively connected with a US trade or business, which creates a US filing obligation and withholding | IRC sections 864(c), 875, 1446, and 897 for US real property interests | A blocker corporation, so the non-US investor holds stock rather than a partnership interest carrying ECI |
| Non-US investor in US real property | Gain on a US real property interest taxed under FIRPTA | IRC section 897 and the section 1445 withholding rules | Structuring choices around the domestically controlled REIT rules and blocker use; highly fact-specific |
| Taxable US investor | Generally none from flow-through treatment; a blocker introduces a second layer of tax | Subchapter K generally | Usually holds directly, and objects to being placed behind a blocker put in for other investors |
| All investors | State and local filing obligations arising from the fund's activities | State law, varies | Composite returns, withholding, or a blocker depending on the states involved |

Reference information only. Not legal, tax, or investment advice. Fund documents vary materially between managers, vehicles and jurisdictions; the structures described here are common patterns rather than the terms of any particular fund, and every figure is derived from a single illustrative reference fund whose inputs are stated. Consult counsel.